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I am a masters student looking for some direction on using neural network on market depth data to help predict market liquidity and bid-ask spreads. Can some of the more experienced people give me some research guidance and guide me to some papers that I should be reading? I have tried Google scholar but can't find something meaningful to kick off my research. Thanks

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I agree with all Robert says above, but if you already have the data, and you want to quickly create a neural network model and run the analysis, I would suggest the following:

  1. The Heaton Site has a Wiki, links to papers, links to books, a forum, etc. that will help you get started, but you might try the PluralSight course Introduction to Machine Learning with ENCOG 3 if you want to get up to speed very quickly as this course shows you how to use Heaton's free software to create a neural network model.
  2. Download ENCOG 3 from the Heaton site. It is a machine learning Framework that runs on a variety of languages (C#, Java, JavaScript, etc.)

  3. In a few hours, you can get setup with code that looks something like this and have your first neural network analysis:

Example of setting up Neural Network with ENCOG

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  • $\begingroup$ Thanks for the advice. I have the data. That's less of an issue for me thankfully (although the answer would have been different 6 weeks ago). What I am trying to figure out is: 1) what are the virgin territories where market micro-structure data and ML/datamining techniques intersect? 2) Related to that what are the real life questions in which professional folk are interested (think fund managers, bankers, traders and the like). I would really like to answer questions which can help people rather than producing research for the sake of it. Please let me know if you have more thoughts. Thanks $\endgroup$ – user2007598 Sep 23 '15 at 12:35
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You can try using different approaches. Starting from something not that "heavy" like the NN.

0) Pre study
- you need to prepare your data
(how you will treat a negative spread (i.e. ASK - BID <0),
what will you do if you will have 0 spread and then you will divide some value by it?),
- plan your research ahead - how will you divide your limited data https://en.wikipedia.org/wiki/Cross-validation_(statistics)

1) Time series models
- check if the bid-ask spread tends to be stationary (you can check it using some extracted moving period from your time series), apply statistical tests
- apply ARMA, ARIMA models for periods which bid-ask spread is stationary
- try to figure out what should you do when the time series stop to be stationary
- try to apply mean reverting models
- after doing this you will have some solid understanding of the characteristics of bid-ask spread models and it will be easier to build NN models.
- this book might be useful http://www.amazon.com/Series-Analysis-James-Douglas-Hamilton/dp/0691042896

2) Neural networks
- try to use different input parameters (i.e. you can smooth the data using moving average)
- try to use also "bid ask volume", "time" variables
- try to use different type of neural networks (different layers) and output neurons and discover which one is the best "out of sample" and "in sample"

BTW what is your goal of the research? Where is the science? What do you want to discover or prove? What is your hypothesis? Answering those questions might help to plan the research in advance.

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  • $\begingroup$ Thanks for the reply. I am at a Data Science post grad program. My own past background has been in energy trading. I am based in a place where the local markets (think more emerging markets) still look at fundamental type analysis as far as capital markets are concerned. I am looking to change that and bring some of these more advanced techniques into the area through my research. $\endgroup$ – user2007598 Sep 3 '15 at 15:39
  • $\begingroup$ Some of the questions we are trying to answer are: •Where is the largest volume traded on a given day? At a given time? Most importantly why? •Which sort of an investor is behind the trade? An institutional (hedge funds, Asset Management Companies), a broker, or an international trader. •Where is the stock price most likely to head given the latest market stack (buy/sell side) changes? •Is the current standing order book going to change the market tomorrow? And by how much? •Can we detect changes in market liquidity using techniques such as NN or ANN or kNN? $\endgroup$ – user2007598 Sep 3 '15 at 15:40
  • $\begingroup$ Can you recommend anything else thinking about the above 2 comments? Regards. $\endgroup$ – user2007598 Sep 3 '15 at 15:43
  • $\begingroup$ Where is the largest volume traded on a given day? At a given time? - Try tu use time series models on ask and bid volume. Questions regarding why somthing happened are hard to answer - this is looking for a casuality, so this is more an econometric problem than machine learning. Liquitdy - try to read about market microstruture. Many models how to model liquidity were developed during last 10 years. $\endgroup$ – Robert Szóstakowski Sep 3 '15 at 21:13

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