Transaction Cost Analysis A-Z

Transaction Cost Analysis A-Z — November 2008

VI. A New Framework: the EBEX Indicators

In the post-MiFID environment, the role of TCA is set to take on even greater importance. As we have seen, however, the current absence of a standardised and widely recognised framework for assessing the quality of the entire trading process is problematic. In this section, we try to fill this gap first by offering a unified framework for measuring ex post the quality of execution and then by showing how this framework can be incorporated into the analysis of the entire transaction cost management process. Because benchmark comparison suffers from several shortcomings, we have developed a standardised framework in the same vein as the RPM 34 and have opted for an absolute measure of the quality of the price obtained: a score between 0 (bad performance) and 1 (good performance). Our approach, the EBEX framework (EDHEC Best Execution), is founded on indicators that facilitate comparisons of a large universe of trades and provide insightful information not only about final performance (the absolute EBEX indicator) but also about the possible justification of the performance (the directional EBEX indicator); a measure of the quality of the market timing is thereby provided. EBEX has several advantages over current industry practices. It is very simple, provides a standardised framework for assessing the quality of execution across a series of trades aggregated at any level, and complies with the MiFID requirement to demonstrate that the target has been reached. It also delivers absolute and meaningful measures of execution quality, allowing straightforward and objective interpretation, and includes

trade-timing consideration. EBEX allows the investor to determine easily whether or not the trading performance of his intermediary, trader or even algorithm is consistently at the top of the class. EBEX is being actively discussed by professionals and academics, and we are confident that positive developments will be proposed in the very near future to allow it to cope with specific situations that the first version did not make allowances for, such as investor constraints or the cost for the investor associated with the broker performance. After having exposed the objectives and principles behind this new methodology, we will describe in detail how our indicators are built, as well as how they can be interpreted. Then, to illustrate both the framework and the level of interpretation made possible, we will present the results of an empirical study conducted on a sample of orders for Euronext blue chips. Next, we will compare EBEX and other approaches to highlight the advantages of our framework. 1. General presentation Our approach aims to provide a simple answer to the following question: Given a transaction handed over to a broker, trader or algorithm and executed for a given price at times that are recorded under given time constraints, to what extent have other brokers, traders or algorithms executed comparable volumes to this transaction, either before or after this transaction, at a better price?

34 - We became aware of the existence of the RPM after having defined our own tools.

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An EDHEC Risk and Asset Management Research Centre Publication

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