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SLIPPAGE IN DAY TRADING
Of all the costs one is associated with in day trading, slippage is by far the most important, and is the one that the trader can have an influence over. Slippage is the difference between your expected entry or exit price, and the actual price you receive after the floor traders get finished with you. Whereas your commissions and exchange fees are relatively fixed, your slippage is very, very varied. Anywhere from receiving the exact price you expect, to a loss of up to 5 points, depending on the volatility of the market at that time. This is where the floor traders make most of their money – at your expense, and where the spread between “bid” and “ask” is always in their favor. They figure it is their domain, and beware any trader not taking this fact into account.
Your Entry Order:
There are three basic ways to enter a trade. Entering your trade “at market”. This way does not enable you to pick ahead of time, your entry price, and thus requires you to be constantly watching the movement of the market. Your timing has to be exact each time and you can still not be sure you are entering where you wish. But you cannot claim slippage because you didn’t first stipulate a particular price for you entry. Entering your trade with a “stop” order. This method requires your price to be hit by the market before your trade is accepted, at which point you are at the mercy of the floor traders. If you are long, you will inevitably be filled at the “ask” price, which is greater than your stop price. If you are short, you will inevitably be filled at the “bid” price, which is less than your stop price. These spreads can sometimes be quite large, and results in quite a difference from what you expect. Also, the price volatility of the moment dictates whether you will be filled near or far from your price order. Entering your trade with a “limit” order. This method dictates that your price must be hit by the market and that you will only be filled at your limit price. If the market is very fast moving, you may miss the trade entirely. On the other hand, if you are filled at your price, it does away with any slippage factor.
This places you in a conundrum. To solve the mystery, you have to decide whether you really want to be filled on this trade, or risk missing it altogether. In a fast moving market, you risk missing with a limit order, although you may get filled on a reversal of market momentum. On the other hand, in a slower moving market, you have a very good chance of being filled exactly where you want, when you want. Missing a trade is not the end of the world, and not being in the trade means there is no chance of losing, which is not the worst fate imaginable. This order does away with slippage as a cost factor. And consider that every trade you miss is not automatically a winning trade. I would suggest that 50% could be winners, and 50% losers. So where is the disadvantage of using limit entry orders?
Your Exit Order:
I believe that there is only one exit signal to use in this circumstance, and that is the “stop” or “MOC” order. The MOC order is really an at-market order that occurs at the end of the trading day. A “limit” order means you may miss the exit and have to go in later and lose even more. A “mental stop” is usually useless as one has a tendency to procrastinate, and hope the market reverses so you lose less. But this rarely happens and will bury you in the long run. The “stop” order may trigger some slippage but is definitely better than losing more later on. It is your safety net and money management rule all rolled into one. It is the only way to limit your losses and let your profits run.
End Result:
Limit In……..Stop Out.
GOOD LUCK AND GOOD TRADING
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