medium · Market Microstructure spread-econ
A value trader estimates a stock's fundamental value to be $60.00.
If the current market price is $57.00, the expected round-trip transaction cost is $0.50, and they require a risk premium of $1.00, will they execute a trade?
- No, because the risk premium is twice as large as the transaction cost.
- Yes, because the mispricing of $3.00 exceeds the total threshold of $1.50.
- No, because the profit margin is less than 10%.
- Yes, because any price below fundamental value represents a profit opportunity.
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