Man Institute

Analysis

Looking Under the Bonnet: Short-Term

Strategies
July 2021
Time to read: 6 minutes

Short-term trading has become an increasingly discussed topic within asset

management. But what exactly do we mean by short-term trading? How
do these strategies differ from high-frequency trading? And what factors
determine their success?

For institutional investor, qualified investor and investment professional use only. Not for retail public distribution.

Author

Emidio Sciulli
Head of Fast Trading Strategies,
Man AHL

www.man.com/maninstitute
 Introduction
Short-term trading has become an increasingly discussed topic within asset
management. But what exactly do we mean by short-term trading? How do
these strategies differ from high-frequency trading? And what factors determine
their success?

What Is ‘Short-Term’?
Short is a relative concept. Trades in financial markets can be held anything from
milliseconds to the lifetime of a fund.

Typical high frequency trading strategies (‘HFTs’) hold positions for minutes or less.
For most other systematic strategies, holding periods are longer, with positions held for
a few days to possibly years, depending on the asset manager’s approach.

We think of short-term strategies as aiming to fill that gap between minutes and days.
While these periods would be long compared to HFT strategies, they are significantly
shorter than typical CTA holding periods and far shorter than those used by most
active discretionary funds.

What It Is Not: Short-Term Trading Versus High

Frequency Trading
Manual high-frequency trading has taken place at least since the early trading-pit
days of the 1930s. The advent of modern computer-based HFT, however, can be
traced to 1983 when NASDAQ introduced a purely electronic form of trading. The
main features of these strategies are the speed of trading and the near instantaneous
reaction to shifts in market news, or changes in demand and supply: at the turn of the
21st century, HFT trades had execution times measured in seconds. By 2010, this had
decreased to “milli- and even microseconds” 1 , driven by a combination of increasing
computing power and evermore available data. The need for speed drives a number

‘‘
of characteristics and trends that have shaped the industry over the past decade. For
example, arbitrage strategies tend to have very high Sharpe ratios, but also very limited
capacity. Constant investment in infrastructure and technology is required to keep up
with competition. Economies of scale drive consolidation around key large HFT players.
Today’s state-of-the- Overall, the space has become substantially more competitive over time.
art strategies look Although in the noughties some short-term trading funds had many CTA characteristics
and focused on faster versions of traditional trend-following strategies, today’s state-
a lot more similar
of-the-art strategies look a lot more similar to the slowed down version of HFTs than to
to the slowed down fast CTAs. Normal practice is to borrow signals, datasets and infrastructure concepts
from the HFT world, but deploy them to capitalise strategies at much slower horizons
version of HFTs than
than what the HFT industry tends to focus on. Examples include using order book
to fast CTAs. ’’ data, signals that capture market microstructure dynamics or a mix of taking/providing
liquidity when executing trades.

The Asset Class Divide

There is no one single ‘type’ of short-term strategy. Individual approaches often have
distinctive features depending on the asset class where they are deployed. At the
moment, we see a clear divide between fixed income, currencies and commodities
(‘FICC’) models, and those applied to equities.

Short-term strategies focusing on cash equities tend to be characterised by higher raw

Sharpe ratios and deeper use of machine learning techniques. This is largely due to
the structure of the equity market. There is a breadth of opportunity, with thousands
of stocks across exchanges and individual stocks having a great deal of company-
specific information in circulation, ranging from earnings announcements to news
flow. This allows strategies to place a wide spread of uncorrelated, highly informed
positions, a task for which machine learning techniques are particularly suited.

1. Andrew Haldane; Patience and Finance; Bank of England; 2 September 2010.

Looking Under the Bonnet: Short-Term Strategies |2

 Furthermore, cash equity strategies tend not to be ‘directional’ in nature, avoiding
exposure to the movements of the overall stock market. Instead they typically capture
the idiosyncratic, relative movements of individual stocks as a source of alpha, while
hedging out shared market components.

In contrast, in the FICC space, where strategies trade macro assets, the drivers tend
to be shared across markets (for example, interest rate or bond futures), reducing the
available set of orthogonal positions. For example, news flow about a central bank’s
change in interest rate policy is likely to affect the currency market, local bond prices,
local equity markets and global markets all together.

The relationship between information and price movements is also different from the
individual equity world, and tends to be much noisier.

As a result, short-term strategies in FICC tend to draw collectively on a wide range

of macro trading flow and news data to trade more ‘directionally’, focusing on fast
changes in the principal components that drive price movements.

‘‘
Given the higher
volumes typically
The Importance of Execution
Given the higher volumes typically traded by short-term strategies, the quality of
execution is of the utmost importance. Every trade executed carries costs, some of
which are visible (such as slippage, commissions, settlement costs and exchange fees)
traded by short-term while others are harder to observe (i.e. market impact).

strategies, the quality By their very nature, short-term strategies need to trade into desired positions quickly,
or else miss out on alpha opportunities. This trading clearly has potential to move the
of execution is of the market, which in turn can substantially eat into the potential alpha, particularly when
utmost importance. ’’ repeated trading in the same market is auto-correlated (i.e., repeated trading orders
in the same direction). This is illustrated in Figure 1: assume that a buy order is placed
when the price is 100. As the financial instrument is bought, the price is pushed higher
and then declines slightly after the first order is fulfilled. However, note that at the
end of the first order, the price never goes back down to 100, but hovers at around
100.02 due to the impact that the original buy order had on the market. This affects
the profitability of any subsequent buy order, which will start buying at a higher price
compared to the first one. This is what short-term traders refer to as market impact.

Technology and methods used to measure, control and reduce costs (and, in
particular, hidden costs) are key factors in the ability of short-term strategies to retain
alpha. Examples include the use of different execution algorithms that allow for both
aggressive ‘taking liquidity’ orders and more passive ones.

Figure 1. Execution of Two Sequential Orders

Price

100.08

100.06

100.04

100.02

100.00

Trade Temporar y impact Permanent impact

Source: Man Group. For illustrative purposes.

Looking Under the Bonnet: Short-Term Strategies |3

The Role of Short-Term Strategies in a Portfolio
So why should investors consider short-term strategies?

First, short-term strategies provide a source of diversification. As the trades are held
from anywhere between a few minutes and a few days, correlation to other asset
classes – where holding periods tend to be longer – are lower.

Second, short-term strategies react quickly to price changes and market volatility,
which potentially allows them to rapidly take a defensive stance, or capitalise quickly
from sudden market moves.

Conclusion
Sitting between the HFT industry and the CTA industry, and by using signals, data and
infrastructure typical of the HFT world but at a slower speed, short-term strategies
complement a portfolio of medium/slower trading strategies very well.

Looking Under the Bonnet: Short-Term Strategies |4

Author

Emidio Sciulli
Head of Fast Trading Strategies, Man AHL
Emidio Sciulli is Head of Fast Trading Strategies at Man AHL. He
was previously Head of Short-Term Research. He joined Man AHL
in 2008 and has held several positions, including serving as Head
of FX and Deputy Head of Commodities. Emidio had previously
contributed significantly in developing cross-asset systematic
fundamental models within Man AHL’s non-directional research team. Emidio holds a
BSc in Economics from Bocconi University in Milan and an MSc in Financial Economics
from Oxford University.

Looking Under the Bonnet: Short-Term Strategies |5

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