The Annals of Applied Probability· 2026Q1
The two square root laws of market impact and the role of sophisticated market participants
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- Q1SCImago
- 2026year
Short summary
Market impact of a metaorder scales with the square root of traded volume for a given participation rate, and is proportional to participation rate (gamma) for large gamma, with smaller gammas showing a more linear dependence.
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Key points
- Market impact scales with the square root of traded volume for a constant participation rate.
- Market impact is proportional to participation rate (gamma) for large gamma.
- Smaller participation rates exhibit a more linear relationship with market impact.
- The model incorporates sophisticated traders with superior market analysis skills.
AI-generated from the title and abstract; the full text is not read.
Abstract
The goal of this paper is to disentangle the roles of volume and of participation rate in the price response of the market to a sequence of transactions. To do so, we are inspired the methodology introduced in (Quant. Finance 15 (2015) 1123–1135; Math. Finance 30 (2020) 1309–1336) where price dynamics are derived from order flow dynamics using no arbitrage assumptions. We extend this approach by taking into account a sophisticated market participant having superior abilities to analyse market dynamics. Our results lead to the recovery of two square root laws: (i) For a given participation rate, during the execution of a metaorder, the market impact evolves in a square root manner with respect to the cumulated traded volume. (ii) For a given executed volume Q, the market impact is proportional to γ, where γ denotes the participation rate, for γ large enough. Smaller participation rates induce a more linear dependence of the market impact in the participation rate.
The authors' abstract, as published at the source. The Annals of Applied Probability, 2026 · DOI ↗
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Field: Economics and Econometrics
Economics and EconometricsEconomics, Econometrics and Finance