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Why Market Makers Need Both Order Book and Trade Data

Article Quant Q&A · Author: user123123
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Summary

The document discusses whether a market maker can estimate fair value by modeling the limit order book (LOB) and its evolution without separately accounting for recent trades. It explains that trades help drive changes in the book, while resting orders also reveal liquidity and potential pressure. Ignoring trades therefore omits part of the price formation process.

The responses offer a qualified view on feature choice: experience across markets suggests that trade-based or LOB-based machine-learning features may dominate in different settings. The practical takeaway is to consider both sources rather than assuming one is sufficient. The discussion gives no empirical comparison, formal model, or specific method for combining the data, and it does not establish which features work best for a given market. It also points to research on modeling buy and sell intensity in a limit order book, without summarizing that work.

Key ideas

  • Trades contribute to price formation and influence the evolution of the limit order book.
  • Resting orders provide information about available liquidity and book conditions.
  • The relative value of trade and order book features can differ across markets.
  • A market-making model that uses only one data source may miss relevant information.

Tags

Market makingHigh-frequency tradingMarket microstructureMachine learning
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# Modelling HFT data


# Modelling HFT data












In the context of Market making, how important is recent trades? In general, would i be able to get away with just modelling the Limit Order Book (LOB) and the evolution of the LOB in order to decipher a 'fair price'?

## Answer by Theodore (score 4)

https://quant.stackexchange.com/a/43484

By "modelling the LOB and the evolution of the LOB" you are modelling trades by definition as they are what determine how the LOB is going to behave.

The evolution of the limit order book is dependent on both the internal dynamics of the book for current pending orders (e.g., if there are a bunch of limit orders to sell at price $X$) as well as recent trades. As a market maker your job is to quickly adapt to theses changes in the books in order to provide actual liquidity (i.e., not orders with spreads way out of whack of what the asset is currently trading at).

## Answer by Ezy (score 2)

https://quant.stackexchange.com/a/43482

Trades are obviously very important.

At the elementary level, a market exists for the purpose of matching buyers and sellers and the mechanism adopted to establish price discovery in LOB is to have liquidity providers display passive orders on the book while liquidity takers lift it by crossing the spread.

Ignoring trades is ignoring the essential and basic process by which price formation occurs.

It goes without saying that any market maker who would decide to ignore trades would be doomed.

## Answer by wildbunny (score -2)

https://quant.stackexchange.com/a/43531

In my experience, this is not as black and white as some of the answers would have you believe.

From a feature engineering POV, I've seen some markets where trade related ML features are dominant and some markets where LOB features dominate.

However, just modelling one without the other would likely be a mistake.

## Answer by jim (score -2)

https://quant.stackexchange.com/a/44730

See T. Hall (2007) - Modelling the buy and sell intensity in a limit order book market

Shown in full with attribution under the source's licence. Licence: CC BY-SA 4.0 (Stack Exchange)

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