For most traders and investors the process of order execution is too routine and mundane to really worry about. While individuals tend to spend a lot of time trying to get the right trading ideas,identifying the entry point and exit point and selecting their broker; very little time and focus is given on the actual execution of the order. Remember,the way you execute your order can make a vast difference to your eventual investment performance. Investors often wonder that when the investment perspective is 3 years then how does a difference of a few percentage points really matter! That is not the point. The idea is that if execution can really contribute to enhancing your alpha, then why not? You will be surprised to know that execution actually matters a lot!
A classic case of bad execution..
Imagine that you had bought Escorts in November2016 at a price of Rs.300. Since you prefer to trade with a 1-2 month perspective, you entered and exited the stock 6 times since November 2016making profits on each of the occasions. Over the last 9 months your investment of Rs.100,000 in Escorts has grown to Rs.150,000. If you are pleased that you have earned 50% in a span of just 9 months then you wrong. Had you just held onto the stock for the last 9 months, you would have earned a return of 120%. By trading in and out of the stock you spend on brokerage and STT and also lost out on the secular price movement. This is a classic case of bad execution. Where you could have made a pot of money without effort you have worked hard to earn much lower returns. That is why execution is so critical.
How we become victims of bad execution practice..
Remember, bad execution is not planned. It just happens involuntarily because we do not give adequate attention to the finer details of execution. Here are 6 common mistakes that we tend to make while executing our trade..
Placing market orders in our system without looking at the depth and the liquidity is a cardinal sin in execution. While buying stocks we tend to invariably place market orders for ease of execution.In the process, you are becoming a victim of the impact cost. You need to realize that behind the screen there are high frequency complex algos that are running which can change the demand/supply scenario in microseconds. Also selling at market by just looking at the screen is to miss out on the hidden orders. There is merit in waiting for your target price.
Most of us become victims of over trading. The case of escorts above is a case in point. What could have been achieved with a simple buy-and-hold strategy, the investor has achieved less than half of that by aggressively trading. When you aggressively churn money it means higher brokerage, higher STT, higher GST and other statutory charges. Of course, you also end up paying short term capital gains tax at 15%.
Not adjusting your stop loss according to the volatility is another common example of bad execution. Many traders tend to keep their stop losses too close to their execution price to keep their losses at the bare minimum. That defeats the very purpose of the stop loss. Always keep the stop loss at a level that gives you protection not at the level that keeps getting triggered frequently.
While we have seen the case of traders placing market orders, there is also the risk of which price you consider as a benchmark. More often than not, traders tend to rely on stock prices that are shown on the business channel tickers or on popular websites. Remember that most of these come with a delay of a few minutes. In a volatile market, even a few seconds can make a vast difference to the eventual price. Rely on the trading terminal, as that is the live price!
Most traders tend to be in a hurry to execute order. On a day when the stock price is falling, it does not make sense to jump in and buy your entire quantity in one shot. Rather, if you slice your order,you will be able to ride volatility and eventually get a much better execution price. This logic applies in case of buying and in case of selling.
When it comes to execution, avoid the herdmentality. Don’t just jump in to buy stocks when almost everybody appears to bejumping in to buy the same. Remember, the herd is rarely correct. The commonmentality is to buy on news. What you should ideally do as a trader is to buyon expectations and sell on announcements.
When it comes to execution, the devil lies in the detail. Execution may appear to be a mundane task to be best left to the trading system, but make no mistake about that. When you sit down to calculate the opportunity cost of your bad execution, you will realize that your execution has made a huge difference to your returns. Then why not start off with a focus on trade execution?
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