Placing the orders or executing as per your expected is not possible in the stock market, especially in highly volatile underlying securities like options. The fluctuation in the price of the security makes difficult for the traders to place the orders as per their estimated price. There is always difference between expected price and price at which trade actually executed.
The difference between this expected price and the executed price can change your profitability or rate of return from the trading. Even automated software like Algo Trading is also facing such issues. However, this price difference between expectation and execution is called slippage in the stock market. Today in this article, we are going to discuss about slippage in tradingor in Algo trading.And how you can avoid or reduce slippage in Algo trading to maximize your profitability.
What is Slippage in Trading?
Slippage in Algo trading is simply the difference between the price of your trading security at which you ordered and the actual price at which the order had been executed. The slippage can be either positive or negative depending on the direction of price movement of the underlying security.
And this slippage occurs due to fluctuation in the price of the security that usually happens with the stocks trading under the options. When the volatility is high the price of the underlying security keeps moving up or down with quick changes making difficult to execute you order as per your expected or requested price creating the slippage.
What is Slippage in Algo Trading?
The meaning of slippage in algorithmic trading and manual trading is broadly same. Difference lies, in manual trading a trader place order manually and adjusts its buy and sells levels as per price action in underlying. The slippages occur due to various reasons like psychology, eagerness to get into trade, impulsive trader, etc. In algorithmic trading, slippage is again the difference between the price quoted by the automated system and the actual price at which the transaction takes place.
Also Read: Six Advantages of Algorithmic Trading with Algo Trading Tips
In manual trading the price moves from your quoted price, you can modify your order price or cancel the order if still it comes again in your buying price range. However, in manual trading, you can use limit orders to place orders at certain specific prices.
While in automated trading with Algo, it could be difficult, as you can set conditions at which price your trade must be executed, if the price doesn't come or bounce back from your limit order price even with a minor difference then you can miss the transaction.
Slippage in Algo Trading
In Algo trading the slippage can cost your transaction as a huge number of transactions take place in the shortest time period with a huge volume of trades. However, the slippage in Algo is lower than the manual trading, as the speed of transaction or order execution is much faster than in manual trading. But still, the slippage needs to be avoided in Algo too.
Though, In Algo, you can set conditions of price range like less than or greater than the price at which your trade should be executed, but still there is a chance of slippage. Hence, reducing the slippage in trading, especially in Algo trading is very important to minimize the cost of acquisition and maximize theoverall profitability of transactions in trading and Algo trading.
Reasons Behind the Slippage in Algo Trading
However, there could be multiple reasons behind the slippage in trading. And in automated trading system like Algo trading there could be some more additional causes that can affect the transactions and execution process in trading. Let’s find out the main causes of slippage and how you can avoid this or reduce occurrence with right approach.
Delayed Order Execution: Automated software like Algo can place the order at a very fast speed compared to humans. However, the order execution in an automated system can be also delayed due to various factors like system slowdown, network latency and trading platform latency. A technical malfunction or system breakdown can delay order execution.
Market is Highly Volatile: When the market is highly volatile, the index or price of the underlying security keeps fluctuating making it difficult to place the order at a specific price.The swing in price will not allow you to trade at your desired price, the slippage will occur.
Also Read: Swing Trading vs Day Trading Which is More Profitable or Better
Lack of Liquidity: When the volume of trade in a particular security is low, there is also a lack of liquidity, making it difficult to execute the trade at the expected price. Low liquidity in the market means the buyers and sellers are both limited; hence, they quote their trade prices with huge differences. The price difference in the order book also causes price slippage.
Also Read: Best Volume Indicators for Day Trading & How to Use for Intraday
Large Trades or Bulk Deals: When there is a large quantity of orders placed in a particular security or bulk deal of transactions take place, the price can change from your desired levels. The Large deals or bulk orders are also responsible for slippage in trade.
Types of Orders: There are certain types of orders in Algo trading like basket orders, limit orders, GTC orders, bracket orders market orders etc. The price of the security is also affected due to the use of certain orders at large scale. Market ordersare also one of themthat are executed at the current market price, and if it does not match your price, the slippage will occur.
How to Reduce Slippage in Algo Trading?
Use Limit Orders Placement
Placing the orders with limit orders is one of the best ways to avoid slippage in trading. In limited order, you can quote your order with a specific price that will be executed only when the price reaches that specific price. If your order is not executed during trading hours, it will be cancelled. However, you can also place limited orders with time duration.
Avoid Volatile Securities
The chance of slippage is very high when the market is highly volatile. To avoid slippage in such market conditions you can avoid trading or don't choose to trade stock with high implied volatility (IV). Always check the VIX to know the volatility level of the market and keep you updated with news or events likely to come that can influence the price of individual stocks.
Also Read: How to Use Implied Volatility in Options Trading: Strategies
In Algo trading to avoid slippage due to volatility, you can choose the highly liquid stocks. A stock with high liquidity means the participants in the market are very active from both sides and your orders would be executed near about your expected price. While in option trading you can trade with hedge positions to avoid the impact of volatility.
Also Read: How to Choose the Right Option Strategy in Algo Trading
Use the Stop Loss
Placing the order with stop loss is another best way of reducing the impact of slippage in the trading. Stop loss orders are automatically closed when your trade position is moving against your expectations. And this will also help you limit your losses.
Also Read: How to Set Target Price and Stop Loss in Intraday Trading
However, sometimes when trading with a limit order and stop loss order, your order might be not executed due to price mismatch or can be canceled if stop loss is triggered. After moving the price near your target point you can upgrade the stop loss and book the profit. This will also help you to reduce your exposure to slippage and protect your capital from losses.
Also Read: What is Profit Booking in Stock Market: Rules & Best Strategy
Use Automated Trading
The best way to deal with slippage in trading is to use an automated trading solution like Algo Trading. The algo-based trading software works at a very fast speed, the order can be placed at lightning speed, and your order can be executed at your expected price. Using the automated trading solution will not only make you trade with high volume but also there is less chance of slippage.
Also Read: Why Choose Algorithmic Software for Options Trading: 10 Reasons
The automation of trading with Algo will help you place orders with more accuracy and efficiency without being influenced by human emotions. Moreover, the algo can place the orders with execution terms and conditions as per the predefined rules and criteria based on trading strategy. The use of automation will also help you reduce the slippage in trading.
Trade with Hedgingstrategy
Trading with hedging can also help you to reduce your slippage. While buying a particular underlying security you can also enter into a selling position to hedge your trade position. This would be possible only in option, trading you can buy or sell or vice-versa the combination of calls and puts to hedge you're trading strategy and avoid the slippage in trading.
Hedging is also necessary when the market is highly volatile or indecisive and moving not a single direction. The chances of slippage are also high in such market conditions, here you can offset your risk of slippage by entering into multiple trade positions.
Choose the Right Time Frame
While performing the technical analysis choosing a time frame with a very short duration will also affect the price you discovered for trading, resulting in slippage in trade execution. The time frame refers to the formation of a candlestick chart with a time interval of 5 minutes, 15 minutes and 30 minutes or hours or a day that you can use at the time of technical analysis.
Also Read: Technical Analysis vs Fundamental Analysis: Which is Better
The shorter the time frame there will be high the price fluctuations resulting there is a high risk of slippage. While if you choose the longer time frame, the trend will be smoother with more clear patterns but the trading frequency will also become slower giving you a slower or late signal. Hence, choose the right time frame wisely that suits your trading perspective and risk profile.
Also Read: What Time Frame is Best for Intraday, Option & Swing Trading
Trade with Robust Trading Platform
Choosing the online trading platform providing the market data or executing the trade order with latency will increase the chances of slippage in trading. The low latency online trading platform will help you to reduce the delays in order execution resulting in low slippage.
However, the reason behind the low latency on a trading platform can also arise due to slow internet connections or using outdated slow-running devices. Hence, to avoid slippage in trading always choose the robust trading platform running on highly competent devices connected with high-speed internet connections.
Use the Right Technical Indicator
When you perform the technical analysis, you use the technical indicators and other tools to find the right trading price. Technical indicators are mathematical calculations that are calculated on the basis of the price and volume data to identify the trend in stocks and find the trading opportunity at the right price. Using these technical indicators optimally is important to avoid slippage.
Also Read: Top 5 Best Technical Indicators for Intraday or Day Trading
There are many technical indicators, in which few of them are too sensitive towards the price data that can generate a false signal resulting in slippage in trading. To make the best use of such indicators you need to backtest with historical data and set the parameters and other settings as per your market conditions and trading strategy. You can also compare the performance of different indicators with their accuracy in price to avoid such slippage in trading.
Also Read: How to Backtest a Trading Strategy in Algo: Backtesting Guidance
Summing-up
Nevertheless, slippage is an unavoidable part of trading that you need to understand. The slippage can occur when the order is executed above or below your quoted price. The main reasons behind the slippage are fluctuations in the price of the underlying security due to volatility in the market or because of slow connectivity or lack of system performance.
Also Read: How to Use Implied Volatility in Options Trading: Strategies
However, you can avoid the slippage in trading or Algo trading if you use the most robust automated trading platform and trade with limit orders or stop loss. You can choose a high speed automated trading system and trade with the right time frame while hedging your trade position. The best way is to avoid trading in a highly volatile market or choose the less volatile underlying security.
Also Read: How to Trade in High Volatile Market: Best Trading Strategies
To avoid slippage in trading you can choose Moneysukh which will provide you with the most advanced Algo trading software – Trade Radar to trade in various market segments in equity. You can enjoy the fully automated trading solution with customised functions to backtest or simulate your trading strategy and make the trading experience more cost-effective.
Also Read: How to Start Algo Trading in Moneysukh: A Best Algo Trading Platform
