Optimal Signal-Adaptive Trading with Temporary and Transient Price Impact

Eyal Neuman and Moritz Vo{\ss}

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Abstract: We study optimal liquidation in the presence of linear temporary and transient price impact along with taking into account a general price predicting finite-variation signal. We formulate this problem as minimization of a cost-risk functional over a class of absolutely continuous and signal-adaptive strategies. The stochastic control problem is solved by following a probabilistic and convex analytic approach. We show that the optimal trading strategy is given by a system of four coupled forward-backward SDEs, which can be solved explicitly. Our results reveal how the induced transient price distortion provides together with the predictive signal an additional predictor about future price changes. As a consequence, the optimal signal-adaptive trading rate trades off exploiting the predictive signal against incurring the transient displacement of the execution price from its unaffected level. This answers an open question from Lehalle and Neuman [29] as we show how to derive the unique optimal signal-adaptive liquidation strategy when price impact is not only temporary but also transient.

Date: 2020-02, Revised 2022-01
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Citations: View citations in EconPapers (19)

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Persistent link: https://EconPapers.repec.org/RePEc:arx:papers:2002.09549

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