Transaction Costs

Abstract

With rising turnover in institutional portfolios, investment managers are paying increasing attention to transaction costs. The authors provide some insight into managing costs in an approach that assumes trading is a process, not an event. In the process, there are three actors: portfolio manager, in–house trader, and broker, each with its own period of discretion. Costs of transacting should be attributed to the different actors according only to their periods of discretion. High–turnover portfolios should invest in systems that would allow estimation of the costs attributable to each actor's decisions. The authors illustrate how this might be done.