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There are three situations in trading where price deviations (usually worse than expected order executions) may occur.
These situations occur at trade entry and trade exit:
- When a trader enters or exits the market with unlimited stop orders, there is a price mismatch or slippage between the price entered into the trading platform and the actual order execution.
- When a trader enters or exits the market with unlimited market orders, there is a price deviation or slippage between the last seen price and the actual order execution.
- When a trader enters or exits the market with limit orders, there may also be a price mismatch or slippage, but it will always be in favor of the trader.
Slippage Arises In Fast Or Illiquid Markets
Here are a few examples:
- A trader has placed a buy stop order in the EUR-USD currency pair at 1.3033 and receives an execution at 1.3035. In this case the slippage or bad execution is 2 pips.
- A trader enters with a buy market order and wants to buy a DAX future now. The last price the trader saw was 9205 pips. He sends his buy order into the market via the trading platform and gets an execution of 9210 points. So the slippage or bad execution was 5 points.
- A trader places a sell limit order for the currency pair AUD-USD at 0.8734 and receives an execution of 0.87342. In this case the slippage was 0.2 pips in favor of the trader. This so-called “positive slippage” occurs in practice almost exclusively with limit orders.
Slippage can be expensive for the trader
In fast markets the slippage can become relatively high and expensive.
When markets move quickly, especially during and shortly after the release of important economic data, but also in the period after the opening or closing of trading, the difference between “expected order execution” and actual order execution can be significant.
Even in very liquid markets such as the GBP-USD pair, the slippage at such moments can be 10 pips or more.
A trader must take this into account in his risk management. And even when backtesting trading systems, the slippage factor is often neglected or not realistically represented.
This results in a large and negative difference between the backtesting and live trading results in real trading.
High slippage also occurs as a rule when trading in illiquid markets.
These can be stocks that have little turnover, exotic currency pairs or futures markets in which there is little trading.
A typical example, which is often mentioned in this context, is the Orange Juice Future (frozen orange juice, traded on NYMEX).
In this futures market, an average of 1,000 to 2,000 contracts are traded per day.
If you enter there with unlimited orders at the wrong time, there can be nasty surprises with the actual order execution.
Conclusion of this article on slippage in trading
A trader must live with the slippage.
These are trading costs that flow directly into the profit and loss account.
But slippage can be reduced if, for example, you access buy limit or sell limit orders when entering a position and also control the exit of the position using limit orders.
For this purpose, you should avoid as far as possible to operate in fast and illiquid markets with unlimited orders.