chapter  3
20 Pages

■ Price Volatility in the Context of Market Microstructure

ByPETER LERNER, CHUNCHI WU

Microstructure theories regard the market as interplay of heterogeneous agents, each with peculiar beliefs about the security’s intrinsic value. Typically, agents have no information about one another’s expectations, but they can adjust their preferences by observing the prices and trading volumes. For instance, a random fall in stock price can attract value investors, thus creating a bounce-back. Revision of preferences may contribute to price volatility even in the absence of economic events.