Trading strategies

Question 1

Trade urgency and execution risk

Answer 1

Greater trade urgency results in lower execution risk because the order is executed over a shorter period of time, which decreases the time the trade is exposed to price volatility and changing market conditions.

Question 2

Scheduled trading

Answer 2

Scheduled algorithms are appropriate for orders in which portfolio managers or traders do not have expectations for adverse price movement during the trade horizon. Greater risk tolerance for longer execution time periods and are more concerned with minimizing market impact.

Question 3

Arrival cost

Market adjusted cost

Answer 3

Arrival cost (bp) = Side×(executed price - price when entered)/price when entered x 10,000

Market-adjusted cost (bps) = Arrival cost (bps) – Beta × Index cost (bps).

Index cost (in bps) = [(Average execution index price – Arrival index price) ÷ Arrival index price] × 10,000 bps

Question 4

hard-stop losses

Answer 4

use of hard-stop losses can risk closing positions too frequently. That, in turn, will increase turnover as well as trading costs

Question 5

equitization to avoid cash drag

Answer 5

temporarily investing cash using futures or ETFs to gain the desired equity exposure before investing in the underlying securities longer term. Large inflows into a portfolio are hindered by lack of liquidity in the underlying securities.

Question 6

Derivative market

Answer 6

Execution in the derivatives market offers the following advantages:
• Quick implementation
• Flexibility to tactically adjust exposure and quickly reverse decisions
• Ability to leave external managers in place
• High levels of liquidity

views the sell-off as temporary and is pleased with external manager performance. This suggests a short-term rebalancing approach is warranted rather than reallocating amongst managers. Execution in the derivatives market will enable quick rebalancing while leaving current allocations in place.
While derivatives can present tracking error and operational risks, the expected short-term nature of the rebalancing serves to contain their effects. The benefits to be gained using derivatives appear to more than outweigh the associated cost and risk

Question 7

Paired trade

Answer 7

long and short positions are paired: capturing alpha as prices converge while offsetting market risk and are well-matched and sized correctly.