QB research

January 13, 2017

BEST EXECUTION FOR FIXED INCOME AND FUTURES

Page 1

Market Impact and Alpha

Price impact caused by an aggressive order is a staple of market microstructure research.
The simplest measure of market impact is to look at changes in midpoint price following a
trade at the bid or the ask. The price motion should be due both to the immediate liquidity
consumption and to the information transmitted by the order to other traders in the market.
It is often forgotten that the decision to send the aggressive order was itself likely based
on a forecast price motion. Using QB internal order data, we can explore this distinction.

0.6 10-Year T-Note Futures

Signal A [1266]
minimum price increment

0.5
Signal B [121606]
0.4

0.3

0.2
Signal C [1597]

0.1 Signal D [867]

Catchup [524]
0.0 Cleanup [1599]

-0.1

0 20 40 60 80 100 120 140 160 180

The figure above shows average midpoint price change following aggressive orders sent
by QB’s execution algorithms, as multiples of the exchange’s minimum price increment, for
the CME 10-Year Note futures contract for calendar year 2016. Price change is normalized
by the sign of the aggressive order: positive for buys, negative for sells. The horizontal axis
is elapsed time in seconds, for a maximum duration of three minutes.
The different curves correspond to different reasons that the algorithm submitted the
aggressive order—this information is not available to an external market observer. The
number shows the number of distinct events. The sizes of market orders vary across the
categories, but we have also controlled for size and the results presented here are robust.
Reasons Cleanup and Catchup are purely timer-based, with no opinion about the future
market direction. The graph shows that market orders sent for these reasons have almost
no price impact, and this suggests that the market orders themselves cause no price impact.
All the other reasons incorporate price prediction signals. In particular, Signal B sends
aggressive orders based on order book imbalance. These orders appear to have price impact,
but comparing with Catchup and Cleanup it is clear that the price change is actually due to
correctly forecasted alpha rather than impact. Since these aggressive orders represent 95%
of the total number of orders, an unconditional average would incorrectly conclude that
market orders have impact. What is actually being observed is the correct price prediction,
which is the reason the aggressive order was sent, rather than a consequence.

Disclaimer This document contains actual performance results achieved, but past performance is not neces-
sarily indicative of future results. Trading futures and options on futures involves significant risk and may result
in unlimited losses. Futures trading is not suitable for all investors. QB offers execution services to institutional
investors exclusively.

+1 646 293-1800 info@quantitativebrokers.com www.quantitativebrokers.com