Skill Sheet: What You Will Learn Here
- All about order slicing and how it works
- How to use the Pyramiding strategy
Order slicing is a method used mostly by institutional traders to split the order into one or more series of orders rather than execute them all simultaneously. Bulk orders can either be executed through a separate window or in the open market. If the bulk order is executed in the open market, the price of the stocks can get disturbed. It can also be a hint to other market participants of sudden interest in the stock and spoil the party.
Slicing, therefore, minimises cost impact as orders are gradually submitted. Slicing can be done based on the existing liquidity position of the security in the market or based on equal quantities throughout the day or specific time.
How slicing works
The slicing of orders was done manually before systems were automated. This involved slicing the bulk orders into smaller sizes for execution. Calculations were made in excel sheets wherein, at specific time intervals, a specific quantity was to be executed. But that is now less popular as many trading platforms offer the order-splitting facility. Institutions use a popular order type known as the iceberg to mask the total quantity to be traded. Traders use iceberg orders to execute large quantities of buying and selling securities. It breaks down a larger order into several smaller orders to avoid disclosing the full order size. For example, if a fund is mandated to buy 10,00,000 quantities of Infosys, an iceberg order will break it into several orders at a particular price range so that the impact cost is minimal. The order will be executed gradually during the day and maybe for several days till the mandate is exhausted. Earlier, this facility was available only to institutional traders, but now it is also available for small investors and traders.
Pyramiding is a strategy employed by traders where a position keeps getting added as the price of the security moves up. If the trend continues, the profits get added, and if the trend reverses the losses can be significant unless stop losses and other risk management tools are employed. The pyramiding strategy is to be employed only if well-defined entry and exit strategies exist.
How it works
Pyramiding is one of the old trading strategies where more positions are added to the existing positions. It is a strategy that can be used only in a trending market. It is important to identify the trend for pyramiding. You can use moving averages, trendlines, or channels to identify a trend and for the end of a trend to exit. Being an aggressive strategy, pyramiding is very risky. Risk management and exit rules are a must to avoid wiping off the book.
There are many types of the pyramid used by traders, namely, an equal pyramid, a standard pyramid, and a maximum leverage pyramid. An equal pyramid is one where equal quantities are added as the price reaches higher predetermined levels. In this, the average cost is higher, and even a small pullback can impact the accumulated profits. On the other hand, a standard pyramid involves a higher initial quantity that is gradually reduced as the price moves in the expected direction. This is less risky than the equal pyramid. The maximum leverage pyramid uses the accumulated profits as margins to buy additional quantities as the price increases. This is the riskiest pyramid type, and the risk-reward is the highest.
Pyramiding is not a good strategy in a flat and volatile market. A trending market is well suited for pyramid trading.
Pyramiding can be a profitable strategy if done with proper risk management tools. Knowing when to stop pyramiding is important, as over-trading can be dangerous. Further, a trader should avoid the temptation of adding to losing position. It is better to book a loss and move ahead to the next trade.
Points to remember:
- In order to avoid disturbing the price significantly, order slicing is used for bulk orders.
- Pyramiding refers to the process of adding new positions as the trade moves in your direction.
- Pyramiding helps in increasing profits but losses can be significant if stop losses or proper risk management is not followed.