The price dynamics of common trading strategies

TL;DR

This paper investigates how common trading strategies influence market prices, revealing their role in amplifying noise, creating price structures, and causing volatility phenomena through a market maker-based model.

Contribution

It introduces a market maker framework to analyze the impact of trading strategies on price dynamics, highlighting their effects on noise and volatility.

Findings

Trading strategies amplify market noise.

They induce structured patterns in prices.

Strategies contribute to excess and clustered volatility.

Abstract

A deterministic trading strategy can be regarded as a signal processing element that uses external information and past prices as inputs and incorporates them into future prices. This paper uses a market maker based method of price formation to study the price dynamics induced by several commonly used financial trading strategies, showing how they amplify noise, induce structure in prices, and cause phenomena such as excess and clustered volatility.