Chips are supposed to go with burgers, or with fish. However, there are times when chips by themselves are exactly what you need and also as a side for many other dishes. Probably my favourite chips are from Vlaams Friteshuis Vleminckx. It doesn’t look like much, a tiny takeaway nestled in the streets of central Amsterdam. However, the chips are super crunchy and frankly, better than most chips I’ve had in many (much more expensive) restaurants. There’s a reason why there’s always a queue outside of eager customers. There are many sauces you can add to give the chips your own personalised taste.
The portion is enough to fill you up for lunch, and I’ve got to admit I always make sure to visit it, if I’m ever in Amsterdam. I guess the point is that chips are pretty versatile, either as a side dish or even as a main dish (ok, I’ll admit having chips as a main course isn’t exactly healthy) and there are some places that cook chips extremely well.
TCA is probably one of those ubiquitous things in the trading world, just like chips are in cuisine. It can be applied in many different areas, whether you are executing FX, equities, fixed income and so on. However, simply using TCA for execution and as way of satisfying regulatory rules is probably missing the point. Just like assuming chips are only good for a side dish with burgers or fish. Of course the main use case is to understand how good your execution, but there are also other use cases, which we’ll explain.
Using TCA to reduce the cost of execution is important, after all, who wants to give away money? However, another important point is to analyse not only the execution itself, but more broadly the trading decision which was executed. Let’s say a portfolio manager decides to go long EUR/USD for the next few weeks. This is typically, then forwarded to an internal execution desk, who work the trade in the market. If the execution desk does a great job, and transaction costs are very low, that is to be commended.
But if the portfolio managers’ view of long EUR/USD ended up being wrong, and the P&L generated from the trade was negative, that’s the most important point! The key question is how we can analyse P&L in our firm to learn from what went right, and what went wrong, when it comes to trading views.
We can analyse P&L from trades, often by modifying TCA tools. tcapy, Cuemacro’s open source TCA Python library, is fully transparent, you see all the code. You can easily change parameters in tcapy for things like markouts to understand how timing the view would have changed P&L, whether we took profit too quickly in general etc. We can look at P&L by asset too. We can try to understand the beta of our P&L to major assets (like EUR/USD) etc. Are there are common patterns in P&L between portfolio managers? Is the P&L better from shorter term or longer term trades? We can slice and dice P&L in many different ways, and often how you do so, will depend on many factors particular to your firm.
Yes, TCA for execution is important to reduce execution costs, but we can use modified versions of TCA tools, to understand P&L of portfolio managers, to help improve how they generate alpha too.