Algorithmic Trading Update 2005: Advanced Execution Goes Mainstream

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11 May 2005

Abstract

New York, NY, USA May 11, 2005

Celent predicts that algorithmic-based equity trading will increase from approximately 14 percent of overall trade volumes to almost 25 percent by 2008, representing a compound growth rate of 13 percent. Traditional buy-side firms, who have thus far been slow to embrace algorithmic trading, represent the industry's largest growth segment, with a five year compound growth rate of 30 percent.

Celent examines the growth of algorithmic trading from the perspective of buy-side and sell-side participants, as well as technology vendors who are actively developing new automated trading tools for the market. Also provided are cases studies covering two of the more actively used algorithms in the market today, providing insight into how algorithms are used according to underlying security and prevailing market conditions. The report also focuses on the impact that Regulation NMS will have on algorithmic trading strategies and front-end technology providers.

Algorithmic trading should not be viewed as technology that will render the human trader obsolete. "Algorithms' importance relative to traditional methods of execution and research should not be overstated," states Harrell Smith, manager of the securities & investments practice and author of the report. "Algorithms are simply advanced trading tools that will serve to make both buy-side and sell-side trading operations that much more efficient."

Growth in algorithmic trading will depend on firms' cost-benefit analysis of taking execution in-house. Although commissions for algorithmic and DMA trading are the lowest in the industry by far, firms must also take into account the indirect costs associated with delay, trade impact and missed trades. At present, the buy-side as a whole is not yet comfortable navigating the numerous algorithmic strategies at their disposal. Increased education, in the form of more robust pre- and post-trade analytics, and hands on assistance from sell-side providers, will play a large role in expanding algorithmic trading beyond its current base of users.

Celent predicts that long-term growth opportunities lie in the fixed income, options, foreign exchange, and futures markets. Other future trends include increased competition between advanced execution management platforms and traditional order management systems. The latter will struggle to remain relevant as advanced execution desks seek greater flexibility, lower costs and more customizable front ends.

The 36-page report contains 19 figures. A table of contents is available online.

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