Table Of ContentAdvance Praise for Electronic and Algorithmic
Trading Technology
‘‘Kendall Kim’s Electronic and Algorithmic Trading Technology is well writ-
ten, thoroughly researched, and logically organized. I look forward to using
the book as a resource for class.’’
—Dr. Scott Gibson, Professor of Finance at the William & Mary Mason
School of Business
‘‘In Electronic and Algorithmic Trading Technology, Kendall Kim provides
valuable insight into the highly specialized world of computer trading. This
includes key terminology and definitions, regulatory background, and indus-
try drivers. In addition, the book provides an overview of the technologies
and methodologies that comprise this complex industry. Electronic and Algo-
rithmic Trading Technology is roadmap to the world of computer trading and
is essential reading for both buy- and sell-side market participants.’’
—Sean Gilman, CTO, Currenex
‘‘Kendall Kim has managed to give a comprehensive overview of the mech-
anisms, the competitive landscape, and even some forecasts on the complex
and quickly evolving topic of electronic and algorithmic trading technology.
Deep domain knowledge is critical to success on Wall Street; understanding
complex market forces at work only enhances the value one can bring to
their trade. Anyone who wants to learn more about this rapidly evolving
phenomenon can benefit by reading Kendall’s book.’’
—Jeff Hudson, CEO, Vhayu Technologies Corporation
‘‘Comprehensive andup-to-date.Useful for bothpractioners andacademics.’’
—George S. Oldfield, Principal, The Brattle Group Washington, D.C.
‘‘Electronic and Algorithmic Trading Technology’’ is an excellent resource for
both academics and financial professionals outside the domain of electronic
trading who are seeking a comprehensive review of an increasingly complex
and ever-changing trading landscape. Kendall Kim has managed to provide
an insightful, engaging, and eminently accessible summary of the core elem-
ents of algorithmic and electronic trading, the challenges faced by all trading
businesses today, and what lies in store for the future of trading across a
multitude of asset classes.’’
—Manny Santayana, Managing Director Advanced Execution Services –
Equities, Credit Suisse
‘‘Kendall Kim’s work is a thorough snapshot of the world of automated
trading, with an intricate history explaining why and how we got where we
are today. Packed with examples and anecdotes, it makes an impressive
reference guide to the multitudes of algorithms, systems and regulations in
existence across the globe.’’
—Matthew J Smalley, Director – ETD Execution Technology, UBS
Investment Bank
Complete Technology Guides for
Financial Services Series
Series Editors
Ayesha Kaljuvee and Ju¨rgen Kaljuvee
Series Description
Industry pressures to shorten trading cycles and provide information-
on-demand are forcing firms to re-evaluate and re-engineer all operations.
Shortened trading cycles will put additional emphasis on improving risk
management through front-, middle-, and back-office operations. Both
business and IT managers need to effectively translate these requirements
into systems using the latest technologies and the best frameworks.
The books in the Complete Technology Guides for Financial Services
Series outline the way to create and judge technology solutions that meet
business requirements through a robust decision-making process. Whether
your focus is technical or operational, internal or external, front, middle,
or back office, or buy vs. build, these books provide the framework for
designing a cutting-edge technology solution to fit your needs.
We welcome proposals for books for the series. Readers interested in
learning more about the series and Elsevier books in finance, including
how to submit proposals for books in the series, can go to:
http://www.books.elsevier.com/finance
Electronic and Algorithmic
Trading Technology
The Complete Guide
Kendall Kim
AMSTERDAM • BOSTON • HEIDELBERG • LONDON
NEW YORK • OXFORD • PARIS • SAN DIEGO
SAN FRANCISCO • SINGAPORE • SYDNEY • TOKYO
Academic Press is an imprint of Elsevier
Academic Press in an imprint of Elsevier
30 Corporate Drive, Suite 400, Burlington, MA 01803, USA
525 B Street, Suite 1900, San Diego, California 92101-4495, USA
84 Theobald’s Road, London WCIX 8RR, UK
This book is printed on acid-free paper.
Copyright ß 2007 by Elsevier Inc. All rights reserved.
No part of this publication may be reproduced or transmitted in any form or by any
means, electronic or mechanical, including photocopy, recording, or any information
storage and retrieval system, without permission in writing from the publisher.
Permissions may be sought directly from Elsevier’s Science & Technology Rights
Department in Oxford, UK: phone: (+44) 1865 843830, fax: (+44) 1865 853333,
E-mail:
Special thanks to Sang Lee of the Aite Group as well as Larry Tabb and
Marty Rabkin of the TABB Group whose valuable contributions and
generosity have made this book possible.
This page intentionally left blank
Contents
About the Author xiii
Series Preface xv
Introduction xix
CHAPTER 1
Overview of Electronic and Algorithmic Trading 1
1.1 Overview 1
1.2 The Emergence of Electronic Trading Networks 2
1.3 The Participants 4
1.4 The Impact of Decimalization 6
1.5 The Different Faces of Electronic Trading 8
1.6 Program Trading and the Stock Market Crash of 1987 10
1.7 Conclusion 13
CHAPTER 2
Automating Trade and Order Flow 15
2.1 Introduction 15
vii
viii Contents
2.2 Internal Controls 16
2.3 Trade Cycle 17
2.4 Straight-Through Processing and Trade Automation 19
2.5 Data Management 20
2.6 Order Management Systems 22
2.7 Order Routing 25
2.8 Liquidity Shift 26
2.9 Conclusion 28
CHAPTER 3
The Growth of Program and Algorithmic Trading 29
3.1 Introduction 29
3.2 A Sample Program Trade 31
3.3 The Downside of Program Trading 33
3.4 Market Growth and IT Spending 36
3.5 Conclusion 38
CHAPTER 4
Alternative Execution Venues 39
4.1 Introduction 39
4.2 Structure of Exchanges 40
4.3 Rule 390 43
4.4 Exchanges Scramble to Consolidate 44
4.5 Arguments Against Exchanges 44
4.6 The Exchanges in the News 46
4.7 Conclusion 49
CHAPTER 5
Algorithmic Strategies 51
5.1 Introduction 51
Contents ix
5.2 Algorithmic Penetration 52
5.3 Implementation Shortfall Measurement 54
5.4 Volume-Weighted Average Price 56
5.5 VWAP Definitions 58
5.6 Time-Weighted Average Price 60
5.7 Conclusion 62
CHAPTER 6
Algorithmic Feasibility and Limitations 63
6.1 Introduction 63
6.2 Trade Structure 64
6.3 Algorithmic Feasibility 64
6.4 Algorithmic Trading Checklist 66
6.5 High Opportunity Cost 67
6.6 Newsflow Algorithms 68
6.7 Black Box Trading for Fixed-Income Instruments 69
6.8 Conclusion 70
CHAPTER 7
Electronic Trading Networks 71
7.1 Introduction 71
7.2 Direct Market Access 71
7.3 Electronic Communication Networks 75
7.4 Shifting Trends 79
7.5 Conclusion 80
CHAPTER 8
Effective Data Management 83
8.1 Introduction 83
