Oct 08, 2026 by Offer

Market impact: Answer Guide 2027

Market impact is the price movement caused by your own trading — buying pushes prices up against you, selling pushes them down. It is the largest component of transaction costs for institutional-size orders. In a market impact interview question, explain the temporary vs permanent distinction and the square-root law intuition.

Market Impact Interview Questions: What They Test

The two-component model: temporary impact (the liquidity concession that fades after you finish trading) versus permanent impact (the information the market infers from your flow, which persists). Practitioners' rule of thumb is the square-root law — impact grows with the square root of order size relative to volume, meaning doubling size raises impact by ~41%, not 100%.

Interviewers want the strategic implication: impact is the fundamental trade-off of execution — trade fast and pay impact, or trade slow and risk price drift (timing risk). Optimal execution (the Almgren-Chriss framework) balances exactly these two costs, which is why execution desks exist.

How to Answer a Market Impact Interview Question

Define it. "The adverse price move caused by your own order — the cost of demanding liquidity."
Split temporary vs permanent. "Temporary impact fades as liquidity replenishes; permanent impact reflects information the market reads into your trade."
State the square-root law. "Impact scales with the square root of size — sublinear, which is why slicing orders works."
Frame the trade-off. "Fast execution pays impact; slow execution risks drift — optimal schedules balance the two."

Common Mistakes in Market Impact Interview Answers

Assuming linear impact. Impact is concave in size — linear assumptions overstate the cost of large trades.
Ignoring the information channel. Some impact is permanent because the market learns from your flow — it is not all bounce-back.
Forgetting signaling. Predictable execution patterns leak information and worsen impact — randomization is part of the craft.

Market impact is the physics of trading — the temporary/permanent split plus the execution trade-off is the interview answer.

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FAQ

Q: What is the difference between temporary and permanent market impact? A: Temporary impact is the liquidity concession that reverses after trading ends; permanent impact is the lasting price change from information the market infers.

Q: What is the square-root law of market impact? A: The empirical rule that price impact grows with the square root of order size relative to market volume — sublinear in size.

Q: How do traders minimize market impact? A: By slicing orders over time, randomizing patterns, using dark venues, and optimizing the speed-versus-drift trade-off.

Q: What is implementation shortfall? A: The total gap between paper portfolio returns and actual executed returns — market impact plus timing costs plus fees.

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