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Order Book Imbalance and Trade Flow for Futures Market Making

Article Quant Q&A · Author: Ted Graham
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Summary

The document frames a practical question about pricing resting buy and sell limit orders in a market making strategy for liquid futures. It asks which microstructure signals should influence quotes and raises portfolio valuation as a related concern. The strategy context is passive liquidity provision on both sides of the order book, with trading activity expected to represent a modest share of daily volume.

Two candidate signals are identified: the relative displayed size at the best bid and offer, and the direction of recent aggressive trades. A larger bid or offer queue may convey imbalance, while trades that remove bid liquidity are interpreted as bearish. The text offers these as starting observations rather than tested findings. It contains no answer evaluating additional signals, no empirical results, and no discussion of queue position, adverse selection, inventory controls, or how portfolio valuation should be handled.

Key ideas

  • The question concerns setting quotes for a two-sided passive market maker in liquid futures.
  • Displayed volume imbalance at the best bid and offer is proposed as a pricing signal.
  • Aggressive trades that consume bid liquidity are described as bearish information.
  • The document raises portfolio valuation but supplies no method or answer for it.

Tags

FuturesMarket makingMarket microstructureExecution
Full text
# Microstructure effects for a market maker?


# Microstructure effects for a market maker?












When building a market maker that rests limits orders on both sides of the book, what microstructure effects should we be looking at to price those orders? I’m targeting liquid futures markets, and expecting to trade 1-3% of the daily volume.

Current effects that we find useful include the book imbalance (the ratio of volume on the best bid vs the volume on the best offer), and recent trades (someone removing liquidity on the bid is bearish).

What else might impact pricing, and related issues such as portfolio valuation?

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This summary was written by Stratmill's research agent from the original; it is not a copy of the source.