David Easley

• Cornell University

We analyze the performance of heterogeneous learning agents in asset markets with stochastic payoffs. Our agents aim to maximize the expected growth rate of their wealth but have different theories on how to learn this best. We focus on comparing Bayesian and no-regret learners in market dynamics. Bayesian learners with a prior over a finite set of...

Blockchain-based cryptocurrencies must solve the problem of assigning priorities to competing transactions. The most widely used mechanism involves each transaction offering a fee to be paid once the transaction is processed, but this discriminatory price mechanism fails to yield stable equilibria with predictable prices. We propose an alternate fe...

We develop a model of psychological-games-played-on-a-network to demonstrate a role for endogenously determined, rationally chosen ethics. Our analysis produces sharp results about contagion of nonethical or ethical behavior and the possible equilibrium configurations of each type of behavior. We find, and quantify, critical densities for clusters...

We investigate the new reality of exchange-traded funds (ETFs). We show that most ETFs are active investments in form (designed to generate alpha) or function (serve as building blocks of active portfolios). We define a new activeness index to capture these dimensions, finding that the cross-section of ETFs is now increasingly characterized by high...

In most contemporary approaches to decision making under uncertainty, a decision problem is described by a set of states and set of outcomes, and a rich set of acts, which are functions from states to outcomes over which the decision maker (DM) has preferences. Many interesting decision problems, however, do not come with a state space and an outco...

Understanding modern market microstructure phenomena requires large amounts of data and advanced mathematical tools. We demonstrate how machine learning can be applied to microstructural research. We find that microstructure measures continue to provide insights into the price process in current complex markets. Some microstructure features with hi...

We develop a dynamic matched sample estimation algorithm to distinguish peer influence and homophily effects on item adoption decisions in dynamic networks, with numerous items diffusing simultaneously. We infer preferences using a machine learning algorithm applied to previous adoption decisions, and we match agents using those inferred preference...

We investigate the role that transaction fees play in the bitcoin blockchain's evolution from a mining-based structure to a market-based ecology. We develop a game-theoretic model to explain the factors leading to the emergence of transactions fees, as well as to explain the strategic behavior of miners and users. Our model highlights the role play...

Blockchain-based cryptocurrencies prioritize transactions based on their fees, creating a unique kind of fee market. Empirically, this market has failed to yield stable equilibria with predictable prices for desired levels of service. We argue that this is due to the absence of a dominant strategy equilibrium in the current fee mechanism. We propos...

If two rational agents want to trade and there are no externalities, then trade is Pareto improving. Economists generally oppose restrictions on such trade. Complete markets allocations are Pareto optimal and thus complete markets are generally viewed as good. But when individuals want to trade because of heterogeneous beliefs, this standard argume...

Ke and Lin provide a valuable alternative approach to estimating the Volume-Synchronized Probability of Informed Trading (VPIN) measure. As we did with estimation of VPIN's predecessor, PIN, they estimate the parameters underlying their modified VPIN measure. This allows Ke and Lin to extract more information from the available data than we extract...

Economic theory takes the individual consumer and firm as a primitive unit of analysis, and so a theory of individual agency is required to derive hypotheses about the behaviour of markets and other systems of economic interest. One such theory is the principle of rationality, whereby agents act in their perceived best interest. This article survey...

Recently, exchanges have been directly selling market data. We analyze how this practice affects price discovery, the cost of capital, return volatility, market liquidity, information production, and trader welfare. We show that selling price data increases the cost of capital and volatility, worsens market efficiency and liquidity, and discourages...

Gamification is growing increasingly prevalent as a means to incentivize user engagement of social media sites that rely on user contributions. Badges, or equivalent rewards, such as top-contributor lists that are used to recognize a user's contributions on a site, clearly appear to be valued by users who actively pursue and compete for them. Howev...

How best to discern trading intentions from market data? We examine the accuracy of three methods for classifying trade data: bulk volume classification (BVC), tick rule and aggregated tick rule. We develop a Bayesian model of inferring information from trade executions and show the conditions under which tick rules or bulk volume classification pr...

Incentives are more likely to elicit desired outcomes when they are based on accurate models of agent behavior. A growing literature---from behavioral economics, as well as online user studies---suggests, however, that people do not quite behave like standard economic agents in a variety of environments, both online and offline. What consequences m...

This short document describes the process used to create the EC'14 program, as well some comments on our experience. This year the conference, which had been called the ACM Conference on Electronic Commerce, was renamed the ACM Conference on Economics and Computation to better reflect the actual makeup of the papers to be presented at the conferenc...

This essay introduces the symposium on computer science and economic theory. (C) 2014 The Authors. Published by Elsevier Inc.

Gamification is growing increasingly prevalent as a means to incentivize user engagement of social media sites that rely on user contributions. Badges, or equivalent rewards such as top-contributor lists that are used to recognize a user's contributions on a site, clearly appear to be valued by users who actively pursue and compete for them. Howeve...

Gamification is growing increasingly prevalent as a means to incentivize user engagement of social media sites that rely on user contributions. Badges, or equivalent rewards such as top-contributor lists that are used to recognize a user's contributions on a site, clearly appear to be valued by users who actively pursue and compete for them. Howeve...

We examine the impact on stock prices of a major upgrade to the New York Stock Exchange’s trading environment. The upgrade was sequentially implemented across groups of stocks. The upgrade improved information dissemination on the trading floor and reduced the latency in reporting trades and quotes. We show that the portion of the upgrade that redu...

In this paper, we investigate the accuracy and efficacy of two methods for classifying trades, the tick rule and the bulk volume classification methodology. Our results indicate that the tick rule is a relatively good classifier of the aggressor side of trading, both for individual trades and in bulk. Bulk volume is shown to also be accurate for cl...

This paper studies the wealth and pricing implications of loss aversion in the presence of arbitrageurs with Epstein-Zin preferences. Our analysis shows that if loss aversion is the only difference in investors' preferences, then for empirically relevant parameter values, loss-averse investors will be driven out of the market and thus they do not a...

Recently exchanges have been directly selling market data. We analyze how this practice affects price discovery, the cost of capital, return volatility, and market liquidity. We show that selling price data increases the cost of capital and volatility, worsens market efficiency and liquidity, and discourages the production of fundamental informatio...

Andersen and Bondarenko's paper “VPIN and the Flash Crash” is essentially a comment on our 2011 Journal of Portfolio Management paper using our measure of order toxicity, VPIN. Andersen and Bondarenko dispute our empirical findings and argue that VPIN essentially does not work. This is incorrect, and is refuted by results in AB and by independent r...

We investigate the effect of ambiguity about hedge fund investment strategies on asset prices and aggregate welfare. We model some traders (mutual funds) as facing ambiguity about the equilibrium trading strategies of other traders (hedge funds). This ambiguity limits the ability of mutual funds to infer information from prices and has negative eff...

Execution traders know that market impact greatly depends on whether their orders lean with or against the market. We introduce the OEH model, which incorporates this fact when determining the optimal trading horizon for an order, an input required by many sophisticated execution strategies. From a theoretical perspective, OEH explains why market p...

Recently Andersen and Bondarenko posted a paper on SSRN with the title “VPIN and the Flash Crash” which is essentially a comment on our earlier work on the measure of order toxicity, VPIN. Andersen and Bondarenko dispute our empirical findings and argue that VPIN essentially doesn’t work. We appreciate the interest in our work, but feel strongly th...

Over the last two centuries, technological advantages have allowed some traders to be faster than others. We argue that, contrary to popular perception, speed is not the defining characteristic that sets High Frequency Trading (HFT) apart. HFT is the natural evolution of a new trading paradigm that is characterized by strategic decisions made in a...

It is conventional to assume that traders in asset markets have rational expectations about asset returns, and choose savings rates and portfolios as if they maximize expected utility using these beliefs. As the hypothesis that traders are expected utility maximizers places few restrictions on behavior in the absence of the rational expectations hy...

Order flow is toxic when it adversely selects market makers, who may be unaware they are providing liquidity at a loss. We present a new procedure to estimate flow toxicity based on volume imbalance and trade intensity (the VPIN toxicity metric). VPIN is updated in volume-time, making it applicable to the high frequency world, and it does not requi...

This study provides experimental evidence on using expertise of players in a game as a crite-rion for selecting an equilibrium refinement concept. Research in psychology on differences between experts and novices is used to motivate the hypothesis that forward induction could be a suitable refinement principle for games played by experts. This hypo...

The spread of a cascading failure through a network is an issue that comes up in many domains: in the contagious failures that spread among financial institutions during a financial crisis, through nodes of a power grid or communication network during a widespread outage, or through a human population during the outbreak of an epidemic disease. Her...

There are a number of domains where agents must collectively form a network in the face of the following trade-off: each agent receives benefits from the direct links it forms to others, but these links expose it to the risk of being hit by a cascading failure that might spread over multistep paths. Financial contagion, epidemic disease, the exposu...

Order flow is regarded as toxic when it adversely selects market makers, who may be unaware that they are providing liquidity at a loss. Flow toxicity can be expressed by the Probability of Informed Trading (PIN). We present a new procedure to estimate the Probability of Informed Trading based on volume imbalance and trade intensity (the VPIN* info...

Flow toxicity can be measured in terms of the probability that a liquidity provider is adversely selected by informed traders. In previous papers we introduced the concept of Volume-synchronized Probability of Informed Trading (the VPIN* metric), and provided a robust estimation procedure. In this study, we discuss the asymmetric impact that an inc...

The ‘flash crash’ of May 6th 2010 was the second largest point swing (1,010.14 points) and the biggest one-day point decline (998.5 points) in the history of the Dow Jones Industrial Average. For a few minutes, $1 trillion in market value vanished. In this paper, we argue that the ‘flash crash’ is the result of the new dynamics at play in the curre...

Are all film stars linked to Kevin Bacon? Why do the stock markets rise and fall sharply on the strength of a vague rumour? How does gossip spread so quickly? Are we all related through six degrees of separation? There is a growing awareness of the complex networks that pervade modern society. We see them in the rapid growth of the Internet, the ea...

During the 2007-2009 financial crisis there was little or no trading in a variety of financial assets, even though bid and ask prices existed for many of these assets. We develop a model in which this illiquidity arises from uncertainty, and we argue that this new form of illiquidity makes bid and ask prices unsuitable as metrics for establishing "...

We examine the potential profits of trading on a measure of private information (PIN) in a stock. A zero-investment portfolio that is size-neutral but long in high PIN stocks and short in low PIN stocks earns a significant abnormal return. The Fama-French, momentum, and liquidity factors do not explain this return. However, significant covariation...

The market selection hypothesis states that, among expected utility maximizers, competitive markets select for agents with correct beliefs. In some economies this hypothesis holds, whereas in others it fails. It holds in complete-markets economies with a common discount factor and bounded aggregate consumption. It can fail when markets are incomple...

A goal for stock exchanges is to increase participation by firms and investors. We show how specific features of the microstructure can reduce perceived ambiguity, and induce participation by both investors and issuers. We develop a model with sophisticated traders, who we view as expected utility maximizers with rational expectations, and unsophis...

The hypothesis that traders are rational in the sense of Savage has few implications for asset prices. The power of rationality lies in the framework that makes analyzing beliefs possible. One approach is to assume that all traders have rational, that is, correct, expectations. This assumption imposes structure on asset prices, but it is surely too...

In a wide range of markets, individual buyers and sellers trade through intermediaries, who determine prices via strategic considerations. Typically, not all buyers and sellers have access to the same intermediaries, and they trade at correspondingly different prices that reflect their relative amounts of power in the market. We model this phenomen...

In most contemporary approaches to decision making, a decision problem is described by a sets of states and set of outcomes, and a rich set of acts, which are functions from states to outcomes over which the decision maker (DM) has preferences. Most interesting decision problems, however, do not come with a state space and an outcome space. Indeed,...

The information content of prices is a central problem in the general equilibrium analysis of competitive markets. Rational expectations equilibrium identifies conditioning simultaneously on contemporaneous prices and private information as the mechanism by which information enters prices. Here we look to the ecology of markets for an explanation o...

We investigate the implications of ambiguity aversion for performance and regulation of markets. In our model, agents’ decision making may incorporate both risk and ambiguity, and we demonstrate that nonparticipation arises from the rational decision by some traders to avoid ambiguity. In equilibrium, these participation decisions affect the equili...

This paper investigates the linkage of microstructure, accounting, and asset pricing. We determine the relationship between firm characteristics as captured by accounting and market data and a firm's probability of private information-based trade (PIN) as estimated from trade data. This allows us to determine what types of firms have high informati...

This paper discusses two sources of ideas that influence monetary policy makers today. The first is a set of analytical results that impose the rational expectations equilibrium concept and do 'intelligent design' by solving Ramsey and mechanism design problems. The second is the adaptive learning process that first taught us how to anchor the pric...

We describe an array of novel introductory-level courses based on exciting topics in modern artificial intelligence. All present a great deal of often research-level technical content in a rigorous manner while keeping the material accessible to lower-level students. On the other hand, they differ in subject matter and style, since a "one-size-fits...

There is a long history in economics of using market selection arguments in defence of rationality hypotheses. According to these arguments, rational investors drive irrational investors out of asset markets and profit maximizing firms drive non-maximizing firms out of goods markets. In this article we present the history of these arguments and dis...

During the 2007-2009 financial crisis there was little or no trading in a variety of financial assets, even though bid and ask prices existed for many of these assets. We develop a model in which this illiquidity arises from uncertainty, and we argue that this new form of illiquidity makes bid and ask prices unsuitable as metrics for establishing "...

This paper demonstrates that when the concept of Rational Expec-tations Equilibrium (REE) is expanded to allow for agents whose pref-erences display ambiguity aversion, standard results on REE no longer hold.In particular, REE can be partially revealing over a set of parame-ters with positive Lebesgue measure. This finding illustrates that models w...

I investigate large movements in stock prices. Large movements in the S&P 500 are often reversed by large movements in the opposite direction. I propose a simulation model of a financial market which endogenously generates this feature of returns. The model comprises two types of traders: positive-feedback traders and traders that trade based on th...

In a wide range of markets, individual buyers and sellers often trade through intermediaries, who determine prices via strategic considerations. Typically, not all buyers and seller shave access to the same intermediaries, and they trade at correspondingly different prices that reflect their relative amounts of power in the market. We model this ph...

Abstract This paper presents a rationale for systematic liquidity and links time variation in the risk premium to liquidity. The driving force behind endogenous liquidity in the model is uncer- tainty about the preferences and endowments of investors. Learning about the risk premium gives rise to the price impact of trades because the order flow is...

The no-trade result of Milgrom and Stokey, J Econ Theory 26:17-27 (1982), states that if rational traders begin with an ex-ante Pareto optimal allocation then the arrival of information cannot generate trade. This paper allows traders to trade before and after the arrival of information. If there are enough securities to hedge against all payoff re...

This paper provides an analysis of the asymptotic properties of Pareto optimal consumption allocations in a stochastic general equilibrium model with heterogeneous consumers. In particular, we investigate the market selection hypothesis that markets favor traders with more accurate beliefs. We show that in any Pareto-optimal allocation whether each...

In almost all current approaches to decision making, it is assumed that a decision problem is described by a set of states and set of outcomes, and the decision maker (DM) has preferences over a rather rich set of acts, which are functions from states to outcomes. However, most interesting decision problems do not come with a state space and an out...

Derived from the 2001 Santa Fe Institute Conference, “The Economy as an Evolving Complex System III,” represents scholarship from the figures in the area of economics and complexity. The subject, a perennial centerpiece of the SFI program of studies, has gained a wide range of followers for its methods of employing empirical evidence in the develop...

This paper explorers rationalizability issues for finite sets of observations of stochastic choice in the framework introduced by Bandyopadhyay et al. (JET, 1999). Is is argued that a useful approach is to consider indirect preferences on budgets instead of direct preferences on commodity bundles. Stochastic choices are rationalizable in terms of s...

We investigate the role of information in affecting a firm's cost of capital. We show that differences in the composition of information between public and private information affect the cost of capital, with investors demanding a higher return to hold stocks with greater private information. This higher return arises because informed investors are...

Market microstructure and asset pricing both consider the behavior and formation of prices in asset markets. Yet neither literature explicitly recognizes the importance and role of the factors so crucial to the other approach. This survey seeks to join the two literatures by surveying the work linking microstructure factors to asset price dynamics....

We ask if natural selection in markets favors profit-maximizing firms and, if so, is there a difference between the predictions of models which assume all firms are profit maximizers and the predictions of models which explicitly take account of population dynamics in the market. We show that market selection favors profit maximizing firms, but we...

In this paper we extend the model of Easley and O'Hara (1992) to allow the arrival rates of informed and uninformed trades to be time-varying and forecastable. We specify a generalized autoregressive bivariate process for the arrival rates of informed and uninformed trades and estimate the model on 16 actively traded stocks on the New York Stock Ex...

We investigate the role of information-based trading in affecting asset returns. We show in a rational expectation example how private information affects equilibrium asset returns. Using a market microstructure model, we derive a measure of the probability of information-based trading, and we estimate this measure using data for individual NYSE-li...

This paper provides an analysis of the asymptotic properties of consumption allocations in a stochastic general equilibrium model with heterogeneous consumers. In particular we investigate the market selection hypothesis, that markets favor traders with more accurate beliefs. We show that in any Pareto optimal allocation whether each consumer vanis...

Extending an empirical technique developed in Easley, Kiefer, and O'Hara (1996, 1997a), we examine different hypotheses about stock splits. In line with the trading range hypothesis, we find that stock splits attract uninformed traders. However, we also find that informed trading increases, resulting in no appreciable change in the information cont...

Evolutionary arguments are often used to justify the fundamental behavioral postulates of competitive equilibrium. Economists such as Milton Friedman have argued that natural selection favors profit maximizing firms over firms engaging in other behaviors. Consequently, producer efficiency, and therefore Pareto efficiency, are justified on evolution...

In this research, we investigate the informational role of financial analysts. Using a trade-based empirical technique, we estimate the probability of information-based trading for a sample of NYSE stocks that differ in analyst coverage. We determine how this probability differs across stocks followed by many analysts, and we investigate whether an...

This paper investigates the informational role of transactions volume in options markets. We develop an asymmetric information model in which informed traders may trade in option or equity markets. We show conditions under which informed traders trade options, and we investigate the implications of this for the linkage between markets. Our model pr...

The trade process is a stochastic process of transactions interspersed with periods of inactivity. The realizations of this process are a source of information to market participants. They cause prices to move as they affect the market maker's beliefs about the value of the stock. We fit a model of the trade process that allows us to ask whether tr...

Using the model structure of Easley and O'Hara (Journal of Finance, 47, 577–604), we demonstrate how the parameters of the market-maker's beliefs can be estimated from trade data. We show how to extract information from both trade and no-trade intervals, and how intraday and interday data provide information. We derive and evaluate tests of model s...

Purchased order flow refers to the practice of dealers or trading locales paying brokers for retail order flow. It is alleged that such agreements are used to 'cream skim' uninformed liquidity trades, leaving the information-based trades to established markets. We develop a test of this hypothesis, using a model of the stochastic process of trades....

This article investigates whether differences in information-based trading can explain observed differences in spreads for active and infrequently traded stocks. Using a new empirical technique, we estimate the risk of information-based trading for a sample of New York Stock Exchange (NYSE) listed stocks. The authors use the information in trade da...

Infrequently traded stocks tend to have higher bid-askspreads than frequently traded stocks. We use a new empirical technique to investigate the risk of information- based trading in active versus inactive stocks. We estimate the stochastic process of trades by maximum likelihood. Using a sample of NYSE stocks, we find that actively traded stocks h...

The authors investigate the informational role of volume and its applicability for technical analysis. They develop a new equilibrium model in which aggregate supply is fixed and traders receive signals with differing quality. The authors show that volume provides information on information quality that cannot be deduced from the price statistic. T...

We provide an overview of the methods of analysis and results obtained, and, most important, an assessment of the success of rational learning dynamics in tying down limit beliefs and limit behavior. We illustrate the features common to rational or Bayesian learning in single agent, game theoretic and equilibrium frameworks. We show that rational l...

Insurance aspects of tax policies are studied in a simple intertemporal general equilibrium model in which agents are uncertain about both the future wage rates and the rate of return on capital. Taxation and lump-sum subsidy policies generally reduce employment, output, and the capital stock but, nonetheless, they can be structured to provide Pare...

In a conventional asset market model we study the evolutionary process generated by wealth flows between investors. Asymptotic behavior of our model is completely determined by the investors’ expected growth rates of wealth share. Investment rules are more or less “fit” depending upon the value of this expectation, and more fit rules survive in the...

This paper examines the adverse selection problem that arises from the repeated trades of informed traders. We develop a model of trading that incorporates the interaction of expectations, prices, and volume. We then examine how trading volume affects the speed of price adjustment to information, and demonstrate how this price effect differs across...

This paper delineates the link between the existence of information, the timing of trades, and the stochastic process of prices. The authors show that time affects prices, with the time between trades affecting spreads. Because the absence of trades is correlated with volume, the authors' model predicts a testable relation between spreads and norma...

This paper examines the effects of price-contingent orders on security prices. The authors show that a market maker who knows the type and composition of trades will set larger spreads and adjust prices faster than if price-contingent orders were not allowed. Because traders have rational expectations over the book, the authors demonstrate that unc...

In an exchange economy with differentially informed traders, Non-exclusivity of information (NEI) is the condition that each trader's private information be perfectly predictable by an outside observer who has observed the private information of all other traders. NEI is one of a set of conditions which, taken together, are sufficient for the imple...

This paper is concerned with the need for, and the implications of, $-optimality in learning problems. The authors consider a control problem in which a Bayesian decisionmaker faces a trade-off between expected current reward and accumulation of information. An example showing the need for the notion of $-optimality and the possibility of discontin...

The problem of controlling a stochastic process, with unknown parameters over an infinite horizon, with discounting is considered. Agents express beliefs about unknown parameters in terms of distributions. Under general conditions, the sequence of beliefs converges to a limit distribution. The limit distribution may or may not be concentrated at th...