Crowded trades, market clustering, and price instability

Marc van Kralingen, Diego Garlaschelli, Karolina Scholtus, Iman van Lelyveld*

*Corresponding author for this work

Research output: Contribution to JournalArticleAcademicpeer-review

Abstract

Crowded trades by similarly trading peers influence the dynamics of asset prices, possibly creating systemic risk. We propose a market clustering measure using granular trading data. For each stock, the clustering measure captures the degree of trading overlap among any two investors in that stock, based on a comparison with the expected crowding in a null model where trades are maximally random while still respecting the empirical heterogeneity of both stocks and investors. We investigate the effect of crowded trades on stock price stability and present evidence that market clustering has a causal effect on the properties of the tails of the stock return distribution, particularly the positive tail, even after controlling for commonly considered risk drivers. Reduced investor pool diversity could thus negatively affect stock price stability.

Original languageEnglish
Article number336
Pages (from-to)1-29
Number of pages29
JournalEntropy
Volume23
Issue number3
Early online date12 Mar 2021
DOIs
Publication statusPublished - Mar 2021

Bibliographical note

Funding Information:
D.G. acknowledges support from the Dutch Econophysics Foundation (Stichting Econo-physics, Leiden, the Netherlands), and the EU project SoBigData++ (Grant No. 871042).

Publisher Copyright:
© 2021 by the authors. Licensee MDPI, Basel, Switzerland.

Copyright:
Copyright 2021 Elsevier B.V., All rights reserved.

Funding

D.G. acknowledges support from the Dutch Econophysics Foundation (Stichting Econo-physics, Leiden, the Netherlands), and the EU project SoBigData++ (Grant No. 871042).

FundersFunder number
European Commission
Dutch Econophysics Foundation
Horizon 2020 Framework Programme871042

    Keywords

    • Crowded trading
    • Entropy
    • Financial stability
    • Tail-risk

    Fingerprint

    Dive into the research topics of 'Crowded trades, market clustering, and price instability'. Together they form a unique fingerprint.

    Cite this