Execution Risk

Introduction

 

An execution of a trade is nothing but the completion of a ‘buy’ or a ‘sell’ order for a particular security. Execution risk in simple terms is the risk that the buy or sell order placed on the exchange may not get executed at the desired price. This may be due to slippage, which is the difference between the expected price of a trade and the price at which the trade actually gets executed. Slippage occurs due to the high volatility in the market or the type of orders placed.

For example, when you buy 500 shares of a Company ABC’s stock, trading at $25 with a ‘market buy order’. Market order (buy or sell) guarantees that the order will be executed. This does not mean that the market buy order will get executed exactly at $25 for all the 500 shares.

There is a possibility that some or all of the market order gets executed at $25.01 for the 500 shares, costing you a maximum loss of ($0.01*500) or $5. In a highly volatile market, placing such buy orders could result in the order getting executed even at a price as high as $25.25, costing you an excess $125 to buy the same amount of shares. This risk of loss owing to slippage is called the execution risk. This has to be factored in while performing the backtesting of strategies.

 

 

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Execution risks

 

Let us now look at some common execution risks in trading below.

Project management risks

Poor project planning, inaccurate resource allocation, inadequate coordination, or failure to meet deadlines can lead to delays, cost overruns, or the ultimate failure of a project.

 

Operational risks

Issues related to the day-to-day operations of a business, such as inefficient processes, supply chain disruptions, technology failures, or human error, can hamper the execution of business strategies.

 

Financial risks

Insufficient funding, misallocation of financial resources, or unexpected financial constraints can impede the successful execution of an investment strategy.

 

Market risks

Changes in market conditions, shifts in customer preferences, competitive pressures, or regulatory changes can create challenges for executing a business strategy effectively.

 

External risks

Factors beyond an organisation's control, such as natural disasters, geopolitical events, economic downturns, or pandemics, can significantly impact the execution of projects or strategies.

 

Human resources risks

Inadequate staffing, lack of necessary skills or expertise, employee turnover, or poor employee performance can hinder successful project execution.

 

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Risk mitigation

 

Going forward, let us find out how to perform the risk mitigation for which several measures can be taken such as:

Thorough planning

Conducting comprehensive research, setting clear goals, developing detailed project plans, and anticipating potential obstacles can help minimise execution risk.

 

Effective project management

Implementing robust project management practices, establishing clear roles and responsibilities, ensuring effective communication, and monitoring progress can improve execution success.

 

Adequate resource allocation

Ensuring sufficient financial, human, and technological resources are available and adequately allocated can enhance the likelihood of successful execution.

 

Risk assessment and mitigation

Identifying potential risks, developing contingency plans, and regularly reviewing and updating risk management strategies can help mitigate the impact of unforeseen events.

 

Continuous monitoring and adjustment

Regularly monitoring project or strategy performance, analysing data, and making necessary adjustments in real-time can help address issues promptly and improve execution outcomes.

 

Collaboration and communication

Fostering a culture of collaboration, open communication, and teamwork within the organisation can facilitate effective execution and problem-solving.

 

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You can explore the course on Quantitative Portfolio Management to learn more about risk management. With this course, you will learn about different portfolio management techniques such as Factor Investing, Risk Parity and Kelly Portfolio, and Modern Portfolio Theory.

This  course is recommended for portfolio managers and quants who wish to construct their portfolio quantitatively, generate returns and manage risks effectively