An Introduction to “ALGORITHMIC” Trading

Rajeev RanjanMS in Finance, Illinois Institute of Technology

rranjan2@iit.edu

Source:cbrayton.wordpress.com

Tech Speak…“Now it’s an arms race. Everyone is building more sophisticated algorithms, and the more competition exists, the smaller the profits.” Andrew W. Lo, Director, MIT Laboratory for Financial Engineering.

“Goldman spends tens of millions of dollars on this stuff. They have more people working in their technology area than people on the trading desk.” Richard Bove, Analyst, Punk, Ziegel & Co.

“There is a real interest in moving the process of interpreting news from the humans to the machines. More of our customers are finding ways to use news content to make money.” Kiristi Suutani, Global Business Manager of Algorithmic Trading at Reuters.

and many more…

Agenda What is Algorithmic Trading ? Past, Present and Future of Algorithmic Trading… Different ways of Algorithmic Trading. So, why are they so much in NEWS ? What’s special about them ? LIVE Run of an Algorithmic Trading System (Only on Public Demand)

Algorithmic Trading ??

Algorithmic trading[1] involves splitting a trade into multiple orders in order to reduce visibility and market impact, but the decision to take the main trade might or might not be automated. A fund manager might decide that a particular stock looks attractive based on his/her fundamental analysis and then instruct his/her trading desk to buy a block of stock. The traders on the desk might well use trade execution algorithms to finesse the placement of this trade.

Automated trading[1] on the other hand involves a set of rules (a very simple example might be a pair of moving averages of different lengths crossing over) that when satisfied automatically trigger the placement of an order. A small, simple automated trade might be placed directly into the market, while a more substantial one might be handed to an execution algorithm for placement in small order slices so as to reduce market impact etc.

My definition…

Past, Present and Future A third of all EU and US stock trades in 2006 were driven by automatic programs,

or algorithms, according to Boston-based consulting firm Aite Group LLC. By 2010, that figure will reach 50 percent, according to Aite [7].

In 2006 at the London Stock Exchange, over 40% of all orders were entered by algo traders, with 60% predicted for 2007[7].

American markets and equity markets generally have a higher proportion of algo trades than other markets, and estimates for 2008 range as high as an 80% proportion in some markets[12].

Foreign exchange markets also have active algo trading (about 25% of orders in 2006) [4].

Futures and options markets are considered to be fairly easily integrated into algorithmic trading, with about 20% of options volume expected to be computer generated by 2010[9].

Bond markets are moving toward more access to algorithmic traders.

Numbers to watch out for …

Source: Algorithmic Trading 2006: More Bells and Whistles [7]. Source: Tower Group

Different virtues, Universal Term…

Robo Trading

Black Box Trading

Program Trading

Automated TradingALGORITHMIC TRADING

ANTI-ALGORITHMIC TRADING

Execution Strategies…(this is what makes it so special)

STRATEGY Developed by

VWAP TWAP Iceberg orders Guerrilla orders Credit Suisse Market Makers Automated Trading Desk, bought by Citigroup (July

2007) Snif-fer Sniper Credit Suisse Arbitrage Spotters Quicker Execution Historical Analysis

Software Companies providing Algorithmic Trading Solutions/Platforms

To name a few…

Trading Technologies Progress APAMA RTS real time systems ORC software Reuters Bloomberg Fidessa LIM… and many more

References1 http://www.automatedtrader.net/Algorithmic_Trading.xhtm

2 http://en.wikipedia.org/wiki/Algorithmic_trading

3 http://www.anti-algorithmic-trading.com/

4 http://www.economist.com/finance/displaystory.cfm?story_id=9370718

5 http://exchanges.nyse.com/archives/2008/07/new_tools.php

6 http://apps.nyse.com/commdata/PubInfoMemos.nsf/AllPublishedInfoMemosNyseCom/85256FCB005E19E8852572F700530DC4/$FILE/Microsoft%20Word%20-%20Document%20in%2007-52.pdf

7 http://www.aitegroup.com/reports/200610311.php

8 http://www.ibspublishing.com/index.cfm?section=TRP&action=view&id=10831

9 http://www.economist.com/finance/displaystory.cfm?story_id=E1_JDNPSDQ

10 http://cbrayton.wordpress.com/category/trading-centers/

11 http://www.iht.com/articles/ap/2007/07/02/business/NA-FIN-COM-US-Citigroup-Automated-Trading-Desk.php

12 http://www.nytimes.com/2006/08/18/business/worldbusiness/18man.html?ex=1313553600&en=b2fee1b41c85af15&ei=5088&partner=rssnyt&emc=rss

That’s all folks …

Thank You !!!

Questions, Suggestions… ??

Of course FEEDBACK…