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Using Order Book Imbalance to Refine Mid-Price Volatility Estimates

Article Quant Q&A · Author: Elkhanba
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Summary

The document asks whether intraday volatility estimates based on the best bid and ask midpoint can incorporate information from deeper order book levels. A conventional midpoint uses only the top quotes, even when the book contains several visible bid and ask levels. The question suggests deeper liquidity and executions may carry information relevant to price variation.

The response proposes an imbalance-weighted midpoint, commonly called the microprice, as a possible alternative. Such a price adjusts the midpoint using displayed order book imbalance, allowing more of the limit order book to inform the price proxy before volatility is computed. The answer is brief and tentative: it does not specify a precise weighting formula, sampling interval, volatility estimator, or empirical comparison. It therefore identifies a useful direction for constructing a richer price series, rather than demonstrating that the method produces a better volatility estimate.

Key ideas

  • The best bid and ask midpoint ignores liquidity information at deeper order book levels.
  • An imbalance-weighted midpoint, often called the microprice, can incorporate order book depth.
  • A volatility estimate can be computed from a richer price proxy built from order book imbalance.
  • The document offers the microprice as a suggestion but does not define an estimator or provide empirical evidence.

Tags

High-frequency tradingMarket microstructureVolatilityExecution
Full text
# Computing Intraday Volatility using mid price


# Computing Intraday Volatility using mid price












I’m working with an order book that contains the 10 best bid and 10 best ask levels. A common approach for estimating volatility is to use the mid-price, typically computed from the first best bid and first best ask. However, this method only considers the top level of the book and neglects the information provided by the other levels, which may be relevant—especially if orders at those levels are executed.

Given this context, are there alternative methods for computing volatility that still rely on the mid-price concept but also incorporate the information from deeper levels of the order book?

## Answer by TheBroSnail (score 0)

https://quant.stackexchange.com/a/85289

Maybe use weighted mid price based on LOB imbalance? I think they call this Micro Price.

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