The long memory of the efficient market

Journal article

For the London Stock Exchange we demonstrate that the signs of orders obey a long-memory process. The autocorrelation function decays roughly as $\tau^{-\alpha}$ with $\alpha \approx 0.6$, corresponding to a Hurst exponent $H \approx 0.7$. This implies that the signs of future orders are quite predictable from the signs of past orders; all else being equal, this would suggest a very strong market inefficiency. We demonstrate, however, that fluctuations in order signs are compensated for by anti-correlated fluctuations in transaction size and liquidity, which are also long-memory processes. This tends to make the returns whiter. We show that some institutions display long-range memory and others don't.

Authors: Lillo, F; Farmer, J

• Journal: Studies in Nonlinear Dynamics and Econometrics
• Volume: 8
• Issue: 3
• Pages: 1-35
• Publication date: 2003-11-04
• Keywords: cond-mat.other; q-fin.ST