How To Reduce Bid-ask Spread And Price Impact Costs?

Discussion in 'Order Execution' started by jjs235, May 19, 2010.

  1. jjs235


    Hey Guys, I would like to start a friendly thread specifically aimed at reducing a trader’s bid-ask spread costs along with price impact costs. I am focused on reducing spread and impact costs when exiting a position for no reason other than to free money for other trades (In other words I don’t expect the stock to make a move in any particular direction when exiting, so reducing the spread and price impact are my main foci in exiting a position).

    Please post your methods or respond to mine.

    Here are my methods which aren’t necessarily effective:

    (NOTES: Unless otherwise started assume the stock being trading has: a daily volume of around $3,000,000, a bid of 200 shares at $30.00, an ask of 200 shares at $30.06, a market cap of $500 million, and it is a typical trading day between 10:00 am and 3:30 pm Eastern Time. These methods will demonstrate selling; just flip for buying.)

    Method 1: “Use Hidden Orders Pennying the Ask”

    Place a hidden small sell order of say 200 shares at $30.05 and adjust it so it is continuously $.01 below the best ask until filled. This method could potentially reduce the spread from $.06 round way to $.01 round way for savings of $10 per 200 shares. There is the problem of the bid and ask falling while waiting to be filled, so slippage costs occur. Also, moves upward will fill your ask, but maybe you would have been filled at a better price simply waiting and hitting the bid. Please leave feedback to this method of your experience with it and if and when it works.

    Method 2: “Post Bids to Raise the Bid Then Hit the Highest Bid”

    Bid 100 shares at $30.01 or $30.02 and wait for someone to either penny you or jump on top of your bid then pull the trigger and sell at the bid (you may remove your bid). By raising the bid you pay a smaller spread, but risk being filled with unwanted shares and commission costs.

    Method 3: “Reduce Price Impact By Posting a Bid Below the Best Bid”

    Post a bid of 200 shares (or maybe 2000 to spook the market up) at $29.99 to hold up the best bid at $30.00 while you sell into it. The purpose is to try to keep the stock at or above $30.00 while you sell so as to not sell for a lower price. The risk is being filled on your bid with unwanted shares.

    Method 4: “Use Large Hidden Sell Orders”

    Assume a position of 10,000 shares is held. Sell all 10,000 shares with a hidden ask limit order of $30.00. The purpose is to not let the market react to small sell orders while unloading a position. This is used obviously to reduce price impact rather than spread. My problems with this method is that the market may get spooked if all shares at $30.00 are taken, thus driving the market lower. Also, often when I do this not even one share gets filled and the market moves lower. Is this due to High Frequency Traders canceling their $30.00 bid when they detect my large hidden sell order (even though no shares get filled)? This is no joke as I have seen this too many times to be a fluke or the market just randomly moving against me right before I post my order (this also happens with orders that are not hidden).

    Again, please post constructive criticism or comments to my methods and post your own proven (unproven) methods. Together we can save each other beaucoup bucks from “the other side”.

    Looking forward to the responses.