Trading Activity and Liquidity Supply in a Pure Limit Order Book Market. An Empirical Analysis Using a Multivariate Count Data Model

In this paper we perform an empirical analysis of the trading process in a pure limit order book market, the Xetra system which operates at various European exchanges. We study how present and past liquidity supply and demand as well as price volatility affect future trading activity and market resiliency, and discuss the results in the light of predictions implied by theoretical models of financial market microstructure. Using time series of reconstructed limit order books we identify latent factors which explain future order submission and cancelation decisions, according to hypotheses put forth by microstructure theory. We test these hypotheses with a new econometric methodology for the analysis of multivariate count processes.