What is a market microstructure?

A section of quantitative finance that studies the impact of trading behavior, volatility, intensity, liquidity, spreads, trading volumes and other market data parameters on prices

Market microstructure is a field of finance that studies the process of price formation in financial markets and the interactions between participants in those markets. It analyzes how participants make decisions to buy and sell financial assets including stocks, bonds, derivatives, cryptocurrency and others.

This is a fairly young section of quantitative finance, which began to develop actively as the trading process became digitalized and electronic trading platforms emerged.

The market microstructure framework investigates how the distribution of information among market participants affects prices and transaction volumes.

Market Microstructure also explores liquidity and spreads. Liquidity is the ability to sell an asset quickly and at a fair price without significantly affecting the price itself. Spread is the difference between the price at which a seller is willing to sell an asset and the price at which a buyer is willing to buy it. By analyzing these issues, market microstructure helps us understand how market participants interact and what factors influence prices and transaction volumes.

Research and development of algorithmic, trading and analytical solutions in this area is rather labor-intensive and complicated process due to the necessity to attract highly qualified personnel, access and storage of quotes layer 3 and higher, the need to deploy high-performance and high-speed server infrastructure.

However, it is the solutions in this area that allow traders and investors to gain market advantage, more attractive prices to execute their orders, reduce risk and increase profits.

Generally, microstructure products are the prerogative of institutional level participants. They are not available to retail investors because they are expensive and difficult to implement.

The trading and analytics platform SpreadFighter allows access to some developments in this area.