Quant Trading 101

If you're currently looking to enter the world of quantitative trading, there's a series of common terminology that you will have to quickly become acquainted with. Not only will these terms be used on the job, but they are fundamental to understanding many of the concepts that quantitative trading builds upon. More specifically, you'll need to understand what an exchange is, what happens on an exchange, and how trades are executed. Lucky for you, we'll summarize many of these concepts in this article.

What is an Exchange?

An exchange is at the center of any form of quantitative trading. Fundamentally, an exchange can be defined as a marketplace in which buyers and sellers interact to buy and sell (i.e trade) certain financial products. The goal of the exchange is to facilitate the process of trading in a fair and equitable fashion. Each exchange can support a different financial asset. These assets range from securities, commodities, stocks, bonds, ETFs, event contracts, derivatives, cryptocurrencies and more.

Some examples of popular exchanges include the New York Stock Exchange (NYSE), the London Stock Exchange (LSE) and Kalshi. And yes, the notorious FTX would also count in this bucket. Note that exchanges don't necessarily need to have a physical location, and in many cases they are completely digital.

What is an Order?

An order is the primary event that takes place within an exchange. Orders are binding messages that inform the participants in an exchange that someone is willing to buy or sell a financial product at a specified price. Participants, or quantitative traders, in the exchange can see the owner of the order as well as information about the financial product, its quantity, and its price.

Orders are often given specified names corresponding to the direction in which an order is issued. A "bid order" refers to the highest price a buyer is willing to pay to purchase a certain quantity of a financial product. Conversely, an "ask order" refers to the lowest price at which a seller is willing to sell a certain quantity of a financial product. As an example, a bid order of $150 for Meta stock indicates that a buyer would need to be willing to pay at least $150 to be able to purchase the stock.

What is Order Matching?

Order matching is the process by which bid orders are actively matched with ask orders at appropriate prices. In essence, when a BUY order is made, the exchange searches to see if there is a SELL order in the market that has a price lower than or equal to the price associated with the BUY order. If the price of the SELL order is less than or equal to the price of the BUY order, the transaction is immediately executed. This transaction takes place at the SELL price for a quantity equal to the minimum of the BUY and SELL quantities. If the SELL quantity was lower than the BUY quantity, only a part of the BUY order gets executed, and the rest is put back in the market. By default, BUY orders remain in the exchange until they are executed.

Orders are stored in what is commonly referred to as an Order Book. The order book keeps track of the price levels and quantities on both the bid and ask sides for any financial product.

What is Market Making?

Market making is a strategy employed by a quantitative trader, when they are uncertain about whether the price of a financial product will increase or decrease, so they instead choose to simultaneously buy and sell financial products to make a profit on the bid-ask spread. In essence, market makers make money due to their willingness to incur the risk that comes with holding inventory of a financial product that may appreciate or depreciate in value.

Summary

Thanks for reading this article; we hope you found it helpful! If you're interested in reading more articles on quantitative finance, feel free to check out our blog. And if you're currently looking for quant jobs or internships, make sure to check out OpenQuant.