Zero Intelligence Models of the Continuous Double Auction: Econometrics, Empirical Evidence and Generalization

Abstract

In the paper, a statistical procedure for estimating the parameters of zero intelligence models by means of tick-by-tick quote (L1) data is proposed. A large class of existing zero intelligence models is reviewed. It is shown that all those models fail to describe the actual behavior of limit order books close to the ask price. A generalized model, accommodating the discrepancies found, is proposed and shown to give significant results for L1 data from three US electronic markets. It is also demonstrated that the generalized model preforms significantly better than the reviewed models.