Algos 101: VWAP

This is the second post in our Algo Execution Educational 101 Series to help those interested in algorithmic execution understand how different types of algorithms work and the execution issues they’re intended to solve. This week we’re focusing on the VWAP algo.

Strategy Name:   VWAP
VWAP stands for Volume Weighted Average Price, and similar to how a TWAP enters orders at a Time interval, a VWAP algo utilizes historical volume profiles to execute at scheduled Volume intervals.

The VWAP algo will take a trader’s order and slice it into smaller sized “child” orders, then enter those smaller sized orders into the market following a volume based schedule. It is a participation-based algo (read more on that here), as the algo attempts to participate alongside of volume at defined scheduled intervals. It attempts to blend child orders into the volume traded and not stand out as a large portion in any one period’s volume.

For example, a trader with 100 contracts to execute using a VWAP algo could see the VWAP algo split that order and do 50 contracts in the closing minutes (assuming for this example that’s where approx. 50% of the day’s volume is traded), 30 contracts in the opening minutes (assuming for this example that’s where approx. 30% of volume is traded), and 20 contracts over the intervening time, filling out the full 100 contracts.

The VWAP schedule is a bit more dynamic than the evenly split TWAP, doing uneven order amounts in line with where the most volume has been during the day historically and projected to be for that day.

Splitting the order based on volume reduces the risk of market impact, and in ensures your order participates proportionately alongside projected volume during the defined trading intervals. The Trader makes a tradeoff, sacrificing being really right for knowing she won’t be really wrong and attempts to instead achieve the volume weighted average price during the trading interval.

How does RCM-X handle a VWAP?   The overall concept remains the same as RCM-X utilizes historical volume profiles to execute at scheduled intervals while seeking to minimize slippage against the market volume weighted average price. RCM-X however constructs proprietary volume profiles that take into account product specific details, days to expiry, economic releases, and seasonality effects.  Furthermore, rather than simply sending child orders immediately into the market,  our VWAP attempts to utilize short term signals to dynamically capture the spread or cross to take advantage of favorable prices when optimal.

 

Read part 1 of our Algos 101 series on the TWAP algo (click here).

 

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