Relative liquidity and future volatility

The main contribution of this paper is to identify the strong predictive power of the relative, rather than the absolute, volume of orders over volatility. To this end, we propose a new measure, relative liquidity, which accounts for how quoted depth is distributed in a limit order book and captures the level of consensus on a security's trading price. Higher liquidity provision farther away from the best quotes, relative to the rest of the book, is associated with a disagreement on the current price and followed by high volatility. The relationship is robust to the inclusion of several alternative measures. Published by Elsevier B.V. son, Dobrislav Dobrev, Christian Julliard, Richard Payne, and an anonymous lso like to thank to Coskun Gunduz, Recep Bildik, and Huseyin Eskici for ding the market mechanisms. Valenzuela acknowledges the support of io ICM IS130002. . Valenzuela), [email protected] (I. Zer), .tuwien.ac.at (T. Rheinländer). ibility of the authors and should not be interpreted as reflecting the views of tem or of any other person associated with the Federal Reserve System. M. Valenzuela et al. / Journal of Financial Markets 24 (2015) 25–48 26