Microprice Uses Order Book Imbalance to Estimate Short-Term Price Direction
Summary
The document explains the microprice, a weighted average of the best bid and ask that gives greater influence to the side with less displayed volume. With more size at the bid, the resulting estimate moves above the ordinary midpoint. The discussion addresses why this can make sense even though aggressive sellers execute against the bid: the weighting is intended to reflect the observed likelihood of the next quote move, not simply which side an incoming market order would hit.
The rationale offered is empirical. The responses report that bid-heavy books are often followed by upward price ticks, and that stronger imbalance may correspond to a greater chance of an uptick. They recommend checking this relationship with tick data in the market being studied. The effect is described as probabilistic rather than automatic, and the basic formula is presented as something that may be refined. No dataset, formal test, or performance results are provided, so the explanation does not establish that the relationship holds in every market or regime.
Key ideas
- Microprice weights the best bid and ask using displayed size on the opposite side.
- A bid-heavy order book can shift microprice above the midpoint as a directional signal.
- The explanation rests on empirical association between book imbalance and subsequent quote moves.
- Market-specific tick data can be used to assess whether the relationship holds.
- The signal is probabilistic and the basic weighting may be improved.
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Full text
# How to understand micro-price (aka, weighted mid-price)? # How to understand micro-price (aka, weighted mid-price)? The definition of micro-price is ``` S = Pa * Vb / (Va + Vb) + Pb * Va / (Va + Vb) ``` where `Pa` is the ask price, `Va` is the ask volume, `Pb` is the bid price, and `Vb` is the bid volume. The typical explanation for micro-price is that a larger quantity of shares on the bid than on the ask indicates greater buying pressure, and therefore the "true" price is closer to the ask than to the bid. But my confusion is: The bid price should be hit by the aggressive sell orders, so the "true" price should still be closer to bid, opposite to the definition of micro-price. Could anyone help to explain? ## Answer by Marc Shivers (score 6) https://quant.stackexchange.com/a/50672 The justification for that microprice is empirical, not theoretical. In most market I can think of, most of the time, if there are more orders and more size on the bid than the ask, then it's more likely that that BBO will tick up rather than down. And the greater the imbalance, the higher the probability of an uptick (and vice-versa for downticks). For your market, you can grab some tick data to verify this. If you work in HFT, then you'll likely spend a good amount of time looking at tick data and trying to come up with a better formula than the one you describe (there are lots of ways to improve it). ## Answer by chrisaycock (score 3) https://quant.stackexchange.com/a/54551 From my own experience, if there is significantly more size on the bid than the ask, then it is easier for market participants to clear the remaining asks than to clear the remaining bids. This phenomenon is, of course, not absolute or automatic. But it happens more than half the time, which is the whole point of a weighted average like this. There is a greater than 50-50 chance that the price will rise, so we want a value that is higher than the standard mid.
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