Reading markouts to tell good flow from toxic

Question

You buy 2{,}000 shares at 30.00 from each of two clients. You measure the markout: the mid one minute after each fill. - Client A: one minute later the mid is 30.03. - Client B: one minute later the mid is 29.92. Each time you paid your bid and collected your usual 2-cent half-spread. Compute the one-minute markout P&L for each client. What should you do differently with each?

Accepted Answer

Markout P&L = spread earned + value drift on your new position. After buying, you're long 2{,}000 shares, so you gain if the mid rises and lose if it falls. Add the 2-cent half-spread you collected on entry. Client A (mid 30.00 	o 30.03, a +3-cent move in your favor): \big(\underbrace{0.02}{	ext{half-spread}} + \underbrace{0.03}{	ext{favorable drift}}\big)	imes 2{,}000 = 0.05 	imes 2{,}000 = +\100. Buying from A was great: the value rose after you bought, so A was uninformed (or even anti-informed), exactly the flow you want. Client B (mid 30.00 	o 29.92, an 8-cent move against you): \b…

Reading markouts to tell good flow from toxic

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