FiMaGP · Financial Markets and Regulation: A Genetic Programming Approach

This project contributes to the understanding of the impact of financial regulation on securities markets through the development and application of an interdisciplinary approach which combines finance, economics and computer science to study order book and OTC markets. Our research supports regulators in forecasting and quantifying the effect of regulations. The insights gained in this project are highly relevant for policy makers as European competitiveness and growth can be negatively affected if regulations are poorly designed.Despite a dearth of scientific insight into the effects of regulatory measures, short sale bans and financial transactions taxes to curb `speculation’ have strong political support in Europe. On the market design side, OTC markets, whose lack of transparency is believed to have deepened the financial crisis, are under scrutiny with the aim to centralise trade.We study microstructure models where investors and security traders submit orders or write contracts to adjust their asset holdings over time. Trader behaviour is represented by computer programmes which process information. We identify behavioural equilibria through genetic programming which exerts evolutionary pressure to successively improve the traders' decision-making abilities until abnormal returns are eliminated. In these equilibria of behaviour and market dynamics, traders are optimally adapted to the institutional and regulatory setting.Results are obtained on the impact of regulatory measures on market stability (excess volatility and crashes), microstructure properties (market quality, price discovery) and the behaviour of investors and traders (asset allocation, skills) which are highly relevant to the understanding and prevention of market breakdowns and financial crises.The models and results will be published as a book to promote this newly established field. We will make the software available as open source code to ensure verifiability of the results.