A nice mental model in poker is to measure your profits in “Sklansky dollars” instead of real dollars. A Sklansky dollar is the expected value from a play if you knew what every other player held.
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By removing the randomness from the game from your measurement, you can zero in much faster on your true edge and calibrate your bet size and frequency more appropriately.
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An application in finance is transaction cost analysis. If you measure execution slippage vs arrival price, it’s very noisy. Instead measure it vs a VWAP over your execution window, or if measuring slippage in single names, adjust the benchmark to take account of how much the …
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…index or sector moved over the execution window. There are similar techniques for measuring the quality of your alphas.
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The general principle is that if you need to measure something noisy, and there is value in converging more quickly on the right answer, it almost always pays to spend time reducing the randomness of your measurement as much as you can.
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this only work for small ish participation rates right? in the extreme if you're 100% of volume over an interval your fill price is the VWAP so you have no slippage relative to VWAP but you may have massively bid up the price relative to arrival
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Yeah t costs when you’re big is a whole different animal
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