CFAI text V6 P27 : market-adjusted implemetation shortfall

The blue-colored characters at the bottom of this page. I don’t understand what the “market-adjusted implemetation shortfall” means. And what is the meaning of a negative implemetation shortfall ? In case of both the “implemetation shortfall (as defined on P26)” and “market-adjusted implemetation shortfall” (-0.13% as calculated)? Anyone can help ?

I have not seen CFAI texts but as per schweser let me try You might have saved few bucks by delaying trading a day or two and by givng limit orders. Say you strategy paid off 0.5%. But the stock which you bought has a beta of 1.5. The mkt adjustment says your IS may be positive or negative standalone but you should consider market return also during that period. For ex, during the two days of your trade, you tried your best and put limit order etc and got a benefit of 0.5% as against had you bought at the market price immeidately. Now assume that the Market has gone up by 1% during the 2 days. As per the one factor model which is Beta time Mkt Ret (leaving RF rate for time being). Beta 1.5 * 1% = 1.5%. Had you straight away bought you would have benefitted by 1.5% as against you strategy saving of 0.5%.

FRM2cfa, I am trying to find other sources of explanation regarding the “market-adjusted implemetation shortfall” and I will come back if I find more justified explanation. But, what is the meaning of a negative “implemetation shortfall” ? and what is the meaning of a negative “market-adjusted implemetation shortfall” ? Are they “gains” to the investor ?

http://www.youtube.com/watch?v=O0G3NecQldA This was very helpful last year; I would highly recommend watching it.

Sponge_Bob_CFA Wrote: ------------------------------------------------------- > http://www.youtube.com/watch?v=O0G3NecQldA > > This was very helpful last year; I would highly > recommend watching it. TKVM for your recommedation ! But that did not answer my questions : 1. What does “market-adjusted implemetation shortfall” mean ? 2. What does it mean if “implemetation shortfall” is negative ? 3. What does it mean if “market-adjusted implemetation shortfall” is negative ?

From last year: http://www.analystforum.com/phorums/read.php?13,989868,990167#msg-990167 Let me know if this helps

AMC Wrote: ------------------------------------------------------- > Sponge_Bob_CFA Wrote: > -------------------------------------------------- > ----- > > http://www.youtube.com/watch?v=O0G3NecQldA > > > > This was very helpful last year; I would highly > > recommend watching it. > > TKVM for your recommedation ! But that did not > answer my questions : > > 1. What does “market-adjusted implemetation > shortfall” mean ? > 2. What does it mean if “implemetation shortfall” > is negative ? > 3. What does it mean if “market-adjusted > implemetation shortfall” is negative ? 1. See above thread I posted 2. It means you actually got a positive return for “waiting” to purchase the security. In this case your opportunity cost is negative 3. See the thread I posted above. Same as statement for 2, but adjusted for general market movements (beta). I am trying to do this from memory, but others maybe able to clear it up.

To add to already excellent comments above: “market-adjusted” means “given market conditions”. For example, if your system goes long and markets collapse that day, implementation shortfall measure will show that you did great but it doesn’t reflect actual skill. Market-adjusted implementation shortfall tries to separate skill from luck by adjusting for market-behavior through “beta” adjustment at mwvt pointed out.

Hmm, I thought market-adjusted was in that video…my bad. What others have already said.

TKVM for all of your advices. One more issue regarding implemetation shortfall (IS), paper portfolio (PP) & actual potfolio (AP). By contrast, does IS > 0 mean PP’s performance is better than AP’s performance ? Conversely, does IS < 0 mean AP’s performance is better than PP’s performance ?

Implememtation shortfall is supposed to give you an idea about the cost of trade. Cost in is a negative compared to the paper portfolio. It creates a drag from performance. However, in calculating Implementation Shortfall,-commissions, realized profit/loss, delay costs, and opportunity cost- are costs and is subtracted from our total return. However, when we make a market adjustment in the event of a positive market movement which is larger than the implementation shortfall , the cost is negative which in fact is a benefit to the total return. Hope this makes it clear.

derswap07, TKVM for your response ! But , can you advise what “Cost in is a negative compared to the paper portfolio. It creates a drag from performance” is meant by you more clearly ? On the other hand, I think that the implememtation shortfall (both “market-adjusted” and “non-market-adjusted”) can be negative (e.g., sell shares in up-trending market or buy shares in down-trending market). If implememtation shortfall (both “market-adjusted” and “non-market-adjusted”) is negative, what does it mean ? Actual portfolio is better-off (has profit) ? Please refer to the solution to Q10.C. of this reading. I don’t understand some statements in it well. If you have a good understanding, please advise. Or do you mean that implememtation shortfall (both “market-adjusted” and “non-market-adjusted”) is just for calculating commissions, realized profit/loss, delay costs, and opportunity cost (performance is irrelevant) ?

AMC Wrote: ------------------------------------------------------- > derswap07, > > TKVM for your response ! But , can you advise what > “Cost in is a negative compared to the paper > portfolio. It creates a drag from performance” is > meant by you more clearly ? We do not include any costs- commissions, stamp duties, etc. which are included in real trading. So when you calculate implemetation shortfall, these costs are deducted from the net cap gain at the end of the investment horizon. So, no matter what, these costs will create a drag on the real portfolio-not the paper one. > > On the other hand, I think that the implememtation > shortfall (both “market-adjusted” and > “non-market-adjusted”) can be negative (e.g., sell > shares in up-trending market or buy shares in > down-trending market). Yes. I think so. > > If implememtation shortfall (both > “market-adjusted” and “non-market-adjusted”) is > negative, what does it mean ? Actual portfolio is > better-off (has profit) ? Please refer to the > solution to Q10.C. of this reading. I don’t > understand some statements in it well. If you have > a good understanding, please advise. It is pretty clear. Which part is confusing? > > Or do you mean that implememtation shortfall (both > “market-adjusted” and “non-market-adjusted”) is > just for calculating commissions, realized > profit/loss, delay costs, and opportunity cost > (performance is irrelevant) ? That’s the whole point. All we want to do is to measure the trading costs relative to paper portfoli- which does not have any trading costs. Theoratically, Imp. shortfall should always be positive, but due to market moves, it can be negative. That’s is why we want to take out the market’s ups and downs from the measure. Hope it helps