Market Impact Decay and Capacity

Abstract

Recent studies have documented that market impact decays slowly through time. The author studies the impact of such slow decay on trading strategies’ capacity. To do so, he proposes a numerical methodology to estimate capacity. A key benefit of such a procedure is its flexibility in incorporating any specification of market impact. In particular, because trades tend to be more autocorrelated when capital devoted to a trading strategy increases, capacity is sensitive to assumptions on market impact decay. The slow decay of market impact leads to trading strategy capacity estimates that are significantly lower than shown in previous capacity studies.