Longer -term investors, as well as day traders and high-frequency traders, need speed.
So says Phil Mackintosh, head of trading strategy and analysis at KCG Holdings, who added that even when using vanilla algorithmic trading strategies such as VWAP, speed helps execution quality. In his most recent report, “The Need for Speed: It’s Important, Even for VWAP Strategies,” he analyzed how long-term investors who leverage fast technology, such as smart routers and low latency networks, can see improvement in execution performance across various strategies, including the most basic algo strategies.
The report focuses on the benefits queue priority offers long-term investors, further highlighting the fact that executional speed and performance impacts all market participants.
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“There is often a perception in the market that speed only benefits aggressive, short-term traders, however we found institutional investors also benefit from faster trading executions,” Mackintosh said. “Investors need to be smart, as well as fast, to make informed decisions and it is critical that long-term investors invest in technology to avoid the hidden costs associated with algorithms that are not optimized for the current market environment.”
Key findings from the commentary include:
1) KCG used a simple single venue model to show how poor queue priority reduces spread capture and increases adverse selection.
2) The same logic applied to two long-term buyers trying to achieve VWAP shows that the buyer using the fastest routing achieved a better VWAP.
3) Using data for all stocks traded year-to-date on NASDAQ and NASDAQ BX, KCG found real data supported the model and found that orders that were deeper in the book when they were filled suffer from worse mark-out, measured as the movement in the mid after the fill.
4) Market complexity, such as inverted exchanges and dark pools, can also help traders achieve queue priority.
“In addition to speed, optimal execution strategy requires being a smart informed investor,” Mackintosh added. “It requires understanding the current depth of book at each venue and where the stock is likely to trade; weighing the trade-off between venue cost and spread capture; considering order types; and understanding how routing strategy can affect queue position.”
KCG’s trading commentary, including this report in its entirety, is available HERE.
