Nasdaq Market Simulation: Ins on a Major Market from the Science of Complex Adaptive Systems (Complex Systems and Interdisciplinary Science)

167 Pages·2007·1.92 MB·English

by  Vincent Darley

A NASDAQ
MARKET SIMULATION
INSIGHTS ON A MAJOR MARKET FROM
THE SCIENCE OF COMPLEX ADAPTIVE SYSTEMS
Complex Systems and Interdisciplinary Science
(ISSN: 1793-4540)
Series Editors:
Felix Reed-Tsochas (University of Oxford, UK)
Neil Johnson (University of Oxford, UK)
Associate Editors:
Brian Arthur Philip Maini
Santa Fe Institute, Spain University of Oxford, UK
Martin Nowak
Robert Axtell
Harvard University, USA
The Brookings Institution, USA
Ricard Solé
Stefan Bornholdt
Santa Fe Institute, Spain
University of Leipzig, Germany
Dietrich Stauffer
Janet Efstathiou
University of Cologne, Germany
University of Oxford, UK
Kagan Tumer
Pak Ming Hui
NASA Ames Research Center, USA
The Chinese University of Hong Kong,
China
Published:
Vol. 1 A Nasdaq Market Simulation: Insights on a Major Market from the
Science of Complex Adaptive Systems
by Vincent Darley & Alexander V. Outkin
Forthcoming:
Large Scale Structure and Dynamics of Complex Networks
Alessandro Vespignani & Guido Caldarelli
Coping with Complexity: Understanding and Managing Complex
Agent-Based Dynamical Networks
Janet Efstathiou, Neil F. Johnson & Felix Reed-Tsochas
Juliet - A NASDAQ Market.pmd 2 2/2/2007, 3:00 PM
Complex Systems and Interdisciplinary Science Vol. 1
A NASDAQ
MARKET SIMULATION
INSIGHTS ON A MAJOR MARKET FROM
THE SCIENCE OF COMPLEX ADAPTIVE SYSTEMS
Vincent Darley
President & CEO of Eurobios, UK
Alexander V Outkin
Los Alamos National Laboratory, USA
World Scientific
N E W J E R S E Y • L O N D O N • S I N G A P O R E • B E I J I N G • S H A N G H A I • H O N G K O N G • TA I P E I • C H E N N A I
Published by
World Scientific Publishing Co. Pte. Ltd.
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Library of Congress Cataloging-in-Publication Data
Darley, Vincent.
A NASDAQ market simulation : insights on a major market from the
science of complex adaptive systems / by Vincent Darley & Alexander V. Outkin.
p. cm.
ISBN-13 978-981-270-001-8 -- ISBN-10 981-270-001-3 (alk. paper)
Includes bibliographical references and index.
1. NASDAQ (Computer network). 2. Stock exchanges--Computer simulation.
I. Outkin, Alexander. V.
HG4574.2 .D37 2007
332.64'30973--dc22
2006048900
British Library Cataloguing-in-Publication Data
A catalogue record for this book is available from the British Library.
Copyright © 2007 by World Scientific Publishing Co. Pte. Ltd.
All rights reserved. This book, or parts thereof, may not be reproduced in any form or by any means,
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Printed in Singapore.
Juliet - A NASDAQ Market.pmd 1 2/2/2007, 11:23 AM
January26,2007 10:50 WSPC/BookTrimSizefor9inx6in NasdaqBook2004ws
With love to Pilar and Troy
who gave endless support throughout the long and
difficult birth of this book
To my wife Vlada and my daughters Yana and Victoria
for the joy and happiness you bring
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January26,2007 10:50 WSPC/BookTrimSizefor9inx6in NasdaqBook2004ws
Preface
This research started in 1998 when Bios Group and Nasdaq entered into a
collaborationtoexplorenewwaystobetterunderstandNasdaq’soperating
world. One set of goals was to explore the effects, including unintended
consequences, of the market microstructure, market rules, and changes to
them, on the behavior of participants such as market makers and traders
in the Nasdaq market, and thereby on the dynamics and behavior of the
marketasawhole. Forreasonsthatwillbecomeclear,themeanschosento
pursuethesegoalswastocreateagent-basedmodelsoftheNasdaqmarket.
Stock markets in general, and Nasdaq in particular, have undergone
a period of rapid change in the past few years, which produced sweeping
changesinthemarket’sbehavior. Thenatureanddirectionofthosechanges
are still far from certain; however, they are certainly dramatic. Therefore,
it is of the utmost importance to understand what can happen so that
markets and their regulators have sufficient informationto prepare for new
changes in the future, potentially by making well-informed adjustments to
some of their rules and infrastructure.
One of the most important issues in 1998 was the forthcoming decimal-
ization. Decimalization means a change to expressing prices in a decimal
system,ratherthanindollarsandfractionsofdollars,andtherelatedques-
tionsofwhattheminimumticksize(orpricechange)inthemarketsshould
be, and what effects a particular minimum tick size might have on the dy-
namicsofthemarket,anditsfairness,volatility,pricediscovery,etc. Much
of the recent history of Nasdaq and NYSE prices were quoted in $1/8ths
and $1/16ths, but in 1998 decimalization was being planned; hence this
was a very important issue at the time. The goal of this book is two-
vii
January26,2007 10:50 WSPC/BookTrimSizefor9inx6in NasdaqBook2004ws
viii A Nasdaq Market Simulation
fold: first, to describe our research in investigating this question — how
decimalization, and tick size reductions in particular, affect the market’s
overall behavior, and the behavior of market’s individual participants; and
second, to present a conceptual agent-based market modeling framework
and its implementation.
This book will be useful to the people and organizations involved in
market research and operations — market modelers, stock brokers, market
makers,daytraders,etc. Itwillalsobeusefultoresearchersinacademiaas
a welcome departure from more traditional perfectly rational, equilibrium
or econometrics based approaches. It will also be useful to policy makers
as a presentation of a cohesive conceptual framework and of a test system
for evaluating the impacts of various policy and rule changes. And last,
but not least, it will be useful to anyone who wants to understand how
the observed market dynamics arises from interaction of behaviors of a
market’s individual participants and components. However, this is not
a cookbook: while we provide a significant amount of detail on how the
simulation was constructed and how the results were obtained, it does not
providestepbystepinstructionsonhowasimilarsimulationcanbecreated.
Additional supplementary materials for this book and for the simulation
model described here can be found at www.agentsim.com.
Much of the research described herein was performed in collaboration
with Tony Plate, Richard Palmer, Isaac Saias, Vladimir Makhankov, Bill
Reynolds, Manoj Gambhir, Gerard Weisbuch, Frank Gao, and Mary Mon-
toya as part of Bios Group work financially supported by Nasdaq. Signif-
icant contributors to the reports that served as a foundation for specific
chapters are acknowledged in those chapters. We acknowledge Bios Group
roleandsupportindevelopingthematerialsforthebook. WethankVince
HockettandBiosGroupmanagementforgrantingusthepublicationrights
for this material. The views expressed here are those of the authors and
are not necessarily reflective of views at the Bios Group or Nasdaq.
Since this work was carried out, Bios Group operations have been sold,
and both authors have moved on, with Vince setting up a branch of Eu-
robios in London, UK, and Sasha joining the Los Alamos National Lab-
oratory. Both authors continue to apply the techniques and approaches
discussed here to a wide variety of interesting problems, of both a research
and practical nature.
TheauthorsaregratefultoAlBerkeley,MikeBrown,StuartKauffman,
Bob MacDonald, Bennett Levitan, Richard Palmer, Per Bak, Isaac Saias,
Martin Shubik, Jeff Smith and other members of the Nasdaq Economic
January26,2007 10:50 WSPC/BookTrimSizefor9inx6in NasdaqBook2004ws
Preface ix
Research group, Simon Spencer, Jon Tarnow, Douglas Patterson, and oth-
ers for their valuable comments and suggestions. We are indebted to Rob
Axtellforhiscontinuedsupportandencouragement. WethankPaulaLozar
for editing help. We thank the editorial staff at World Scientific for their
help and patience. Any errors which may remain are of course the sole
responsibility of the authors.