Slippage in trading - what does that mean?

The term "slippage" has also firmly established itself among the English-speaking traders, when one speaks of the actual execution of stock exchange orders. The word Slippage comes from English and means delay, deviation or slipperyness. In this article I will describe my experience with Slippage.

Slippage occurs in fast or illiquid markets

There are three trading situations that can lead to price deviations (usually worse than expected orders). These situations occur during trade entry and trade exit:

• If a trader enters or leaves the market with unlimited stop orders, there is a price deviation or slippage between the price entered into the trading platform and the actual order execution.
• If a trader enters or leaves the market with unlimited market orders, there is a price deviation or slippage between the last-seen price and the actual order execution.
• If a trader enters or leaves the market with limit orders, there may also be a course deviation or slippage, which then always fails in favor of the trader.

Here some examples:

• A trader has placed a buy-stop order in the EUR-USD currency pair with 1.3033 and gets an execution with 1.3035. In this case, the slippage or bad execution is 2 pips.
• A trader enters a buy-market order and wants to buy a DAX future. The last course the trader saw was 9205 points. He sends his purchase order via the trading platform into the market and gets an execution of 9210 points. The slippage or bad execution was 5 points.
• A trader places a sell-limit order for the AUD-USD pair at 0.88734 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 for limit orders.

In fast markets, the slippage can be relatively high and expensive. If markets are moving rapidly, particularly during and shortly after the publication of important economic data, but also after the opening of the trade or shortly before the trade, the difference between "expected order execution" and actual order execution may be considerable. Even in very liquid markets such as the GBP-USD pair, the slippage can be 10 pips or more at such times. This must be taken into account by a trader in his risk management. And also in the backtesting of trading systems, the factor slippage is often neglected or not represented in a realistic manner. This results in a large and negative difference between the results in backtesting and live trading.

High slippage also usually occurs when one is in illiquid markets. This can be shares that have little sales, exotic currency pairs or futures markets, where little is traded. A typical example, which is often mentioned in this context, is the Orange Juice Future (frozen orange juice, traded on the NYMEX). In this futures market, an average of 1,000 to 2,000 contracts are traded per day. If you go there with unlimitized orders at the wrong time, there can be nasty surprises with the actual order execution.

Conclusion: A trader must live with the slippage. These are trading costs, which are directly reflected in the profit and loss account. But slippage can be reduced if, for example, Gain access to buy-limit or sell-limit orders and also control the position exit via limit orders. To this end, it should be avoided as far as possible to operate in fast and illiquid markets with unlimited orders.