Dynamic Trading Policies with Price Impact

44 Pages Posted: 7 Nov 2001

See all articles by Hua He

Hua He

Yale University - School of Management; Fudan University - International Finance

Harry Mamaysky

Columbia University - Columbia Business School

Date Written: October 2001

Abstract

In this paper we analyze the optimal policy for a risk averse agent who wants to sell a large block of shares of a risky security in the presence of price impact and transactions costs. Our framework reduces to the standard Merton portfolio problem in the absence of any market frictions. Optimal liquidation results in revenue distributions which are substantially different from those generated by a naive strategy. The main tradeoff involves choosing between revenue distributions which have high means versus those which have low variances. Furthermore, our results suggest that the effective liquidity of a security depends on its return distribution and on the characteristics of the agent carrying out the trade, as well as on the price impact function.

JEL Classification: G11, G12

Suggested Citation

He, Hua and Mamaysky, Harry, Dynamic Trading Policies with Price Impact (October 2001). Available at SSRN: https://ssrn.com/abstract=289257 or http://dx.doi.org/10.2139/ssrn.289257

Hua He

Yale University - School of Management ( email )

135 Prospect Street
P.O. Box 208200
New Haven, CT 06520-8200
United States
203-432-6025 (Phone)
203-432-3003 (Fax)

HOME PAGE: http://som.yale.edu/~hh78/

Fudan University - International Finance

Shanghai
China

Harry Mamaysky (Contact Author)

Columbia University - Columbia Business School ( email )

3022 Broadway
New York, NY 10027
United States

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