Optimal Trading of Microstructure Mean Reversion
When to buy and sell stock prices that bounce back within seconds
Stock prices bounce around a true underlying value on timescales of seconds, creating predictable patterns traders can exploit. A researcher solved exactly when to buy and sell to capture these bounces while accounting for transaction costs, and found that the optimal strategy works like a trading band: buy when the price dips below a threshold, sell when it rises above, and wait in between. All profit comes from the option value of waiting for the price to move far enough to cover costs.
High-frequency traders make money in the microsecond gaps between transactions—but only if they know when to move. This work gives the mathematical rule for the most profitable entry and exit points in that micro-market, accounting for the spreads that drain money on every trade. For active trading firms, this translates directly into sharper execution and higher returns from the same market opportunity.