Optimal Trade Execution in Illiquid Markets
21 Pages Posted: 23 Aug 2011
Date Written: October 2011
We study optimal trade execution strategies in financial markets with discrete order flow. The agent has a finite liquidation horizon and must minimize price impact given a random number of incoming trade counterparties. Assuming that the order flow 'N' is given by a Poisson process, we give a full analysis of the properties and computation of the optimal dynamic execution strategy. Extensions, whereby 'N' is a Markov‐modulated compound Poisson process are also considered. We derive and compare the properties of the various cases and illustrate our results with computational examples.
Keywords: optimal order execution, liquidity modeling, dark pools, Markov‐modulated Poisson process
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