research@hec - Issue #19 - (Page IV)

Limit Orders research Ioanid Rosu Time Counts More Than Information BIOGRAPHY Ioanid Rosu presents a model of price formation in an order market where trading is conducted according to a limited-order book. This refers to orders (placed by an agent) to buy or sell stock at a certain price, thereby guaranteeing investors that shares will not be sold (or purchased) below (or above) a predefined price. Contrary to price-driven markets, where market makers provide liquidity and thus establish rates, there are no market makers in order-driven markets. Liquidity arrives on the market randomly, as anonymous traders place orders in a limit-order book and wait until the transaction goes through. Rosu comments, “I got involved in this issue almost by chance. When I started the study, I did not know how investors placed limitorders. I was primarily interested in financial market liquidity and information-related costs, but I realized that on many markets, it is waiting costs that have the greatest impact. In fact, there was an apparently critical issue that I knew nothing about— financial market microstructure. How are prices formed? What can we learn from this? And how does this affect the economy?” asymmetry. Ioanid Rosu has studied how limit order books (orders to buy or sell stock at types of stock market order, limit order books vary according to degrees of investor patience and competition rather than according to informational predefined prices) are established and evolve. Rosu shows that contrary to other hec Romanian national Ioanid Rosu joined the HEC Paris faculty in 2010 after having taught finance at the University of Chicago (Booth School of Business). Rosu holds PhDs in mathematics and in financial economics from MIT, where he received several research grants as well as the Charlie Housman Award for Excellence in Teaching. CREATING A MODEL FOR THE LIMIT ORDER MARKET “Over half of the world’s stock markets are currently order-driven, and limit-order books lie at TIME IS MONEY Rosu’s model offers insight about differences between buying and selling prices (the bid-ask spread), trading volume, the impact of transactions on prices, and the evolution of order books over time. Some of his findings explain empiric observations of order markets, and others are brand new and can be used to test the model. Rosu stresses that his results were obtained in the absence of the very core of the trading system,” Rosu explains. “But despite their significance, there is very little related literature. One reason is that order markets are complex and difficult to represent with a model.” Contrary to price-markets, where just one or a few market makers are enough to create a model, a satisfactory model of the order-market requires showing how market prices are formed based on the interaction of a large number of anonymous traders that arrive on the market randomly and can choose to either to buy or sell immediately, or to wait. Waiting enables them to invest strategically and change their orders at any time. “We propose a model where, for the first time, agents can freely change or cancel limit-orders. What is surprising is that allowing traders to adopt a strategy has actually simplified the issue instead of making it more complicated.” IV research@hec • February-March 2011

Table of Contents for the Digital Edition of research@hec - Issue #19

Cover & Contents
The Structure and Workings of Interorganizational Networks
Limit Orders: Time Counts More Than Information
Strategic Alliances: The Need for a Holistic Approach
HEC PARIS Publishing News

research@hec - Issue #19