# Mini-Flash Crashes, Model Risk, and Optimal Execution

## TL;DR

This paper develops a mathematical model capturing key aspects of mini-flash crashes, including market participant behavior and market conditions, highlighting the potential for such crashes under various trading environments.

## Contribution

It introduces a novel model integrating human errors, feedback loops, and liquidity factors, using optimal execution concepts to analyze mini-flash crashes.

## Key findings

- Mini-flash crashes can occur in both low and high volume markets.
- Market participants may not be certain about impending disruptions.
- Agents' beliefs about price impact are often incorrect.

## Abstract

Oft-cited causes of mini-flash crashes include human errors, endogenous feedback loops, the nature of modern liquidity provision, fundamental value shocks, and market fragmentation. We develop a mathematical model which captures aspects of the first three explanations. Empirical features of recent mini-flash crashes are present in our framework. For example, there are periods when no such events will occur. If they do, even just before their onset, market participants may not know with certainty that a disruption will unfold. Our mini-flash crashes can materialize in both low and high trading volume environments and may be accompanied by a partial synchronization in order submission. Instead of adopting a classically-inspired equilibrium approach, we borrow ideas from the optimal execution literature. Each of our agents begins with beliefs about how his own trades impact prices and how prices would move in his absence. They, along with other market participants, then submit orders which are executed at a common venue. Naturally, this leads us to explicitly distinguish between how prices actually evolve and our agents' opinions. In particular, every agent's beliefs will be expressly incorrect.