30 Pages Posted: 3 Nov 2008
Date Written: April 2006
We introduce a new analysis of transaction costs that explicitly recognizes the importance of the timing of execution in assessing transaction costs. Time induces a risk/cost tradeoff. The price of immediacy results in higher costs for quickly executed orders while more gradual trading results in higher risk since the value of the asset can vary more over longer periods of time. We use a novel data set that allows a sequence of transactions to be associated with individual orders and measure and model the expected cost and risk associated with different order execution approaches. The model yields a risk/cost tradeoff that depends upon the state of the market and characteristics of the order. We show how to assess liquidation risk using the notion of liquidation value at risk (LVAR).
Suggested Citation: Suggested Citation
Engle, Robert F. and Ferstenberg, Robert and Russell, Jeffrey R., Measuring and Modeling Execution Cost and Risk (April 2006). NYU Working Paper No. FIN-07-044. Available at SSRN: https://ssrn.com/abstract=1293627
By Jim Gatheral