Execution Costs

Execution costs are the total costs incurred when trading beyond the intended decision price. These costs can materially reduce strategy returns, especially for high turnover strategies.

Components of Execution Costs

Execution costs include the bid ask spread, commissions, and fees. They also include slippage from price movement during execution, market impact from order size, and delay costs when orders are not filled immediately.

Measuring Execution Costs

Implementation shortfall is a common framework that compares the decision price to the final average execution price. Other benchmarks include mid price, VWAP, and TWAP. Consistent measurement allows comparison across brokers, strategies, and markets.

Factors That Drive Costs

Liquidity, volatility, order size, and urgency all influence cost. Costs rise when the market is thin or when the order size is large relative to available depth. Aggressive orders execute faster but typically pay more spread and impact.

Cost Reduction Techniques

Splitting large orders, using limit orders, and avoiding illiquid periods can reduce costs. Adaptive execution algorithms adjust participation rate based on available liquidity. Continuous monitoring helps detect changes in cost structure.

Conclusion

Execution costs can erase alpha if ignored. Measuring and managing them is essential for realistic strategy evaluation and live profitability.