[ T H O U G H T
our expected impact changes for
different trading strategies. We
use our past data to ‘learn’ how the
impact varies with strategy and
then take the resultant model to
use in the scenario analysis. This
is why having a large repository of
order data is so crucial. We need
to see a lot of outcomes to be able
to properly train, test and validate
a model.
We want to create features (AKA
analytics) that can distil a large
amount of data into a smaller
amount of data. We can also enrich
the data by applying our domain
knowledge. We do this by aggre-
gating and combining the data into
features that describe the business
process we want to model. As an
example, we may want to sepa-
rately aggregate all of the volume
from liquidity removing trades
and liquidity providing trades to
compute a ratio of active to total
volume.
If we want to be able to model
how our orders interact with the
various order books that make up
the market, we need to prepare
the data, both market data and our
order data.
Rather than pass every new order
book update to the model, we
instead compute time-weighted
liquidity metrics, such as depth
of liquidity on a scale of minutes
rather than microseconds. This
process turns highly granular or-
der book messages into aggregated
analytics (features) that describe
liquidity in a more macro way. We
can apply similar approaches to
our order data.
Engineering order features for
our model starts off with a ques-
tion we want to answer: What is
the relationship (if any) between
the trading strategy and the imple-
mentation shortfall of our order?
The first task is to try and come
up with the appropriate features
L E A D E R S H I P
Chris Sparrow, head of research
Melinda Bui, director of trading analytics
that we think will help us identify
a relationship. It can help to look
at a volume profile that shows
aggregated volume binned into
15-minute intervals. We can also
show the color of the volume done
actively versus passively. We may
even want to show the venues
where we got the volume (but that
would make the chart very hard
to read).
The trading strategies that could
be employed range from trading
most of the volume close to the
start of the order to trading most
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L I Q U I D M E T R I X ]
of the volume near the end of the
order. Other strategies would trade
their volume at a more consistent
pace.
One feature we can try is to com-
pute the time-weighted unfilled
portion of the order. If most of the
volume is traded at the beginning
of the order, then the pace of
trading slows down as the order
proceeds. This proposed feature
would have a small value because
most of the order volume is exe-
cuted in a short amount of time at
the beginning of the order. If most
of the volume were traded near
the end of the order, the feature
would have a large value. A more
symmetric strategy, like a VWAP,
would have a value close to 50%
since the volume profile is close to
being symmetric in time.
Figure 1 shows some examples
of trading strategy volume profiles
along with the time-weighted
average unfilled portion of the
order. We will call the value of the
proposed feature exposure. The ex-
posure is the area under the curve
shown in Figure 1.
When we examine the trading
profiles of various strategies, we
also notice that some of the strat-
egies may be symmetric, but they
don’t trade consistently through
the lifetime of the order. There are
some periods where there is a lot
more volume and other periods
where there may be no volume. We
can create another feature to mea-
sure this by fitting the time-weight-
ed unfilled portion of the order
with a linear model. We can define
a ‘roughness’ feature by comput-
ing the variance of the difference
between the model and the data. If
the trading strategy is smooth, like
a VWAP in a liquid security, then
the ‘roughness’ will be low, where-
as in other strategies that may be
symmetric, but not consistent, the
‘roughness’ will be high.
Issue 60 // TheTradeNews.com // 27