Slippage

Real or imagined; Does slippage really exist, or are you just making it up? It depends on the type of your order.

First let's begin with the definition of slippage which is the difference between estimated transaction costs and the amount actually paid.

In stock market trading there two kinds of slippage. One is real and one isn't. In general, slippage is defined as the difference between a price determined by the trader, and the price that actually occurs on the exchange floor. That is, I say, "Buy Soybeans at 662.50," but then I find out I was filled at 663.00, two ticks off my price. The two ticks is called slippage. You see this most commonly referred to when people are simulating real trading on paper (e.g. "I bought Soybeans at 663.00 plus two more ticks for slippage"), and when traders are unhappy with the fill they just got in a market.

First of all, how is this possible? Well, unless you give the trading floor a limit order (e.g. "Buy Soybeans at 662.50 OR LOWER"), you're not requiring that you get a particular price. A market order is executed at whatever the market determines the price to be when your order arrives. If you use a stop order, then when the market trades at your price, your stop becomes a market order and it gets filled at the current market price. It's a deviation in price from some preset price or expectation you have about the market. Since markets are often dynamic places, prices change a lot from minute to minute, and that brings me to my first point.

If you use a straight market order, there is no such thing as slippage. There really isn't. You are walking onto the floor of the exchange and saying, "I want to buy these Lean Hogs right now." The guy on the floor charges you some price for your contract and you walk away. If you don't mention a price to him, you can't complain that the price slipped on you, by definition. The price doesn't match what your broker told you? Seconds or minutes have passed; you weren't trading in the same market. The price doesn't match what's on your quote screen? "Real-time" feeds run several seconds behind the action on the exchange floor, and the prices are dependent on humans to report them. In high-activity markets, the quote feed may or may not be correct. There ARE cases where mistakes are made (either real mistakes or on-purpose mistakes) that cost you ticks, but that's called greed or mistakes, not slippage. Since you didn't have a pre-determined price that the market cares about, you can't have slipped from that price. This goes for all market orders (including market-on-open and market-on-close).

Now, if you use a stop order it's a different story. If you have an order to buy Soybeans at 663.00 on a stop (with the market below that price), when the price trades up and into (or past) 663.00, your order converts to a market order and you get filled at whatever the market will take. If the market moves up past your stop order, you'll probably get filled higher than 663.00. THAT is slippage, where you had a target price but you didn't get it. Is the market obligated to get your price on a stop? No; your stop price is what triggers the market order, and because the order is a market order, you get whatever price the market assigns you. Slippage is extremely common on stop orders; the degree of slippage is generally determined by how fast the market is moving when it hits your stop price. Can you get a good fill on a stop order? Sure; suppose at the instant somebody filled an order to go long one contract of next year's Soybeans at 663.00, another order came in to sell 2,000 contracts at the market. Your stop order, triggered by the trade at 663.00, will likely get filled a little lower than your stop price. Do you call a fill at 662.00 on a 663.00 stop slippage? No; you call that "an exceptional fill" because you're happy.

The one and only way to avoid slippage is through the use of limit orders, where you say "Buy Soybeans at 663.00, no higher," or, "Buy Soybeans between 663.00 and 663.50" depending on what side of the market you're on. Then, you're demanding a specific and limited price, and you CAN'T get slippage on that because you've pre-declared the worst price you're willing to accept. Of course, you might not get filled at all if no one is willing to buy or sell at your required price, but if you do get filled, it has to be at your limit price or better. If you put in a limit order and your broker has the temerity to call you with a fill that's worse, have him go back and get the correct information because somebody made a mistake.

Not a cosmic or heretical essay this time; just a clarification that you need to tell somebody you're expecting a certain price before you can say that your fill price slipped from that expectation. Everything else is just an "unfortunate fill".