Table 3 Definitions of Key Terms and Concepts

Algorithmic Trading

Use of an electronic platform for entering trading orders with an algorithm that executes programmed trading instructions based on timing, price and volume.

Used by buy-side traders, such as mutual funds, pension funds and investment banks, whose customers need sophisticated market support services.

Alternative Trading Systems

Non-exchange trading platforms that match buy orders and sell orders.

Account for a lot of liquidity trading; Dark pools and ECNs are alternative trading systems.

Bid-Ask Spread

Difference between highest price a buyer is willing to pay and lowest price a seller is willing to sell an asset.

If the bid price is $40 and the ask price is $41, then the bid-ask spread is $1.

Circuit Breaker

Defensive approach used by exchanges to limit damage induced by the sharply fall of a security’s price.

Activated when a market index falls by a predeter-mined amount in a period of time, so trading stops.

Co-locationService

High-frequency traders place trading computers in data centers that house exchange’s computer servers.

Made available by stock exchanges, which charge fees for services offered, building new revenues.

Dark Pool

A private space for institutional investors to trade away from the public exchanges, which enables them to maintain secrecy about potentially large lots of stick that are to be traded.

Trades that happen in dark pools are concealed from the public. These occur due to the fragmentation of the financial markets, and because electronic trading enables them.

Decimalization

System that requires the prices of securities to be quoted in decimals rather than in a fractional format.

Helps to narrow the bid-ask spread.

Electronic Communication Network

An ECN is an automated system to match buy and sell orders for securities, typically after an exchange’s regular operating hours.

Allows brokerages to trade directly with individual investors without a middleman; supports investors across different regions

Front-Running

An illegal practice in which brokers trade for their own account ahead of their customers, based on the knowledge of the pending orders from them.

When pending orders from customers are predicted to influence the security price, trading ahead of customers allows brokers to obtain more profit.

Layering

A strategy used by HFT brokerage firms that enter and cancel orders that they never truly intend to execute quickly.

Involves ask orders above the market price, followed by bid orders that approach that price by HFT firms; bids are canceled once the higher price is reached. Recognized as market manipulation.

Liquidity

Traders can buy / sell securities in market without creating an impact on securities’ prices.

Liquidity implies low transaction cost, the possibility of immediate trades, and deep demand / supply.

Ping Orders

Using small equity orders to detect other hidden trade orders.

Used to detect hidden supply / demand in dark pools.

Price Discovery

The process of determining an equity’s price in a financial market through interactions between sellers and buyers.

The price discovery process is influenced by many factors that affect market demand and market supply.

Quote Stuffing

Practice of HFT firms that enter and withdraw orders quickly to increase market uncertainty to create trading opportunities.

Larger players (market-makers), are able to do this practice, because they have direct links to stock exchanges.

Regulation NMS

Regulations to promote the development of a national market system in the U.S. for equity trading.

Focused on immediate priority for inter-market equity prices, fast access to quotes, and minimum stock price increments. Similar to MiFID rules in Europe.

Stamp Duty

A tax levied on legal documents that are filed when economic transactions occur.

Usually involve the ownership transfer of assets or property for stocks, bonds and other financial instruments.

T + 1 Regulation

Stocks are not allowed to be sold on the day when they are bought, but only the following day – T + 1.

Adopted by stock exchanges in China.

Tick Size

The minimum price increment for securities price quotes.

Tick sizes can be fixed or flexible.

Volatility

Used to measure dispersion or variance of a security’s price.

Indicates uncertainty about changing prices of a security.