  Previous research has found that high-frequency traders will vary the bid or
offer price rapidly over periods of milliseconds. This is a benefit to fast
traders who can time their trades with microsecond precision, however it is a
cost to the average market participant due to increased trade execution price
uncertainty. In this analysis we attempt to construct real-time methods for
determining whether the liquidity of a security is being altered rapidly. We
find a four-state Markov switching model identifies a state where liquidity is
being rapidly varied about a mean value. This state can be used to generate a
signal to delay market participant orders until the price volatility subsides.
Over our sample, the signal would delay orders, in aggregate, over 0 to 10% of
the trading day. Each individual delay would only last tens of milliseconds,
and so would not be noticeable by the average market participant.

Trading and Market Microstructure