Hi all,
Question is are transaction costs and implementation shortfall interchangable?
Should you get to the same result regardless if you use the longer cost implementation cost components or the simple transaction cost method of (# shares) (Base Price - Execution Price)?
Thanks.
That formula isn’t the shortcut to implementation shortfall. The short version of IS is [GAIN on a hypothetical trade] -[GAIN on actual trade].
Lets reference Reading 29 question 10 A. Hypothetically can you use implementation shortfall calculation to solve for this question? Seems like if you were to use base price of 52.87 this calculation would not work.
That is my confusion too. I do not think you can do that. IS is comparing with paper portfolio and taking the ratios of shares traded and the trading costs. Formula taken here is much simpler and direct. Unless specifically asked, I do not think we should use the IS formula. Also, in this q, there bid and ask are given and never used?!!! that confused me.
What you guys think?
Also, for the Q 10 part B, why the midpoint is taken as BM and not bid price ?
So the IS is just your [hypothetical portfolio (assuming the trade executed on your DP) - The actual gain on your portfolio] divided by the total value of your hypothetical portfolio.
Your missed trade, explicit costs, delay, and market impact are all subsets of your IS that when aggregated should be equal to your IS. These subsets tell you more of the picture as to what caused your IS.
Ya CFAI has totally confused the readers with these examples. I think the clues are if the problem specifically states "C alculate Estimated Transaction Cost" or “Calculate Implementation Shortfall”.
For “Calculate Estimated Transaction Costs” -
Buying Stock: (shares)(Executed Price - Target Price) + Explicit Costs
Selling Stock: (shares)(Target Price - Executed Price) + Explicit Costs
For “Calculate Implementation Shortfall”:
Realized P&L % = (Fills / Total Shares) [(Execute Price - Decision Price) / Benchmark Price]
Delayed Costs % = (Fills / Total Shares) [(Price T-1 - Benchmark Price) / Benchmark Price]
Missed Costs % = (No Fills / Total Shares) [(Final Price - Benchmark Price / Benchmark Price)]
Explicit Costs % = (Commissions & Fees) / [(Benchmark Price)*(Total Shares)]
*Note you have to calculate Realized P&L and Delayed Costs for each day where trades are filled. Missed Opportunity Costs are only calculated once, after the problem states the trade is canceled.
*Always a good idea to double check the long form IS calculations against the short form method.
*CFA is very inconsistent about the Decision Price which can change based on the number of days in which the trades are executed. The way I am approaching it is if its the First Day of the Trade and the problem has the word “decision” in it, or does not list a prior day’s closing price, then use that most recent bid/ask mid point as the Decision Price. If it does not say “decision” then assume the prior day’s ending price, unless somehow the problem specifically states Decision Price is X. If the problem is on the Second or later trading days the Decision Price then become the prior day closing price.
*CFA seems to specifically state the Benchmark Price so always just look for that statement.
Again, I think CFAI has done a terrible job with this Reading 29, they don’t even provide a specific set of formulas for the reader. However, this is my understanding of how to navigate this section of the material, so hope this helps.
I encourage others to chime with their views to help the forum better understand this poorly written section.
Thanks.
agree 100%
i agree that this particular reading has poorly worded text and example… but if you look at some of the exam question in recent years… they are very clear about calculating each component/ and the answer in % of $ should be the same anyways
I think which one would be BP depends primarily of kind of order, market or limit and of course whether is selling order or buying order.