When is cross impact relevant?

Abstract

Trading pressure from one asset can move the price of another, a phenomenon referred to as cross impact. Using tick-by-tick data spanning 5 years for 500 assets listed in the United States, we identify the features that make cross-impact relevant to explain the variance of price returns. We show that price formation occurs endogenously within highly liquid assets. Then, trades in these assets influence the prices of less liquid correlated products, with an impact velocity constrained by their minimum trading frequency. We investigate the implications of such multidimensional price formation mechanism on interest rate markets. We find that the 10-year bond future serves as the primary liquidity reservoir, influencing the prices of cash bonds and futures contracts within the interest rate curve. Such behaviour challenges the validity of the theory in Financial Economics that regards long-term rates as agents anticipations of future short term rates.

Keywords:

• Cross impact
• Price impact
• Price formation
• Interest rate
• Liquidity
• Timescales
• Correlations

Acknowledgments

We would like to express our gratitude to Mehdi Tomas, Jean-Philippe Bouchaud, and Natasha Hey, who contributed to our research through fruitful discussions. We are also indebted to Bertrand Hassani, who provided us with the opportunity to conduct this study at Quant AI Lab. We extend our appreciation to Emmanuel Serie and Stephen Hardiman for their assistance in maximizing the potential of the high-performance computing tools which were instrumental in completing this study. Finally, we would like to thank Cécilia Aubrun for her helpful proofreading.

Disclosure statement

No potential conflict of interest was reported by the author(s).

Additional information

Funding

This research was conducted within the Econophysics & Complex Systems Research Chair, under the aegis of the Fondation du Risque, the Fondation de l'École polytechnique, the École polytechnique and Capital Fund Management.