Market Architecture. A Conceptual Framework and Real-World Systems

This chapter examines the logic behind evolving market architecture in financial markets. It starts by discussing the various types of market structure and the main driver of market architecture: the search of liquidity by dealers and brokers. The chapter shows how the design of market architecture is a result of both the search of liquidity and the need to minimize inventory risk incurred by dealers. A brief description of inventory models is provided. It then presents an discussion about market fragmentation versus concentration with the analysis about anonymity versus open limit order with special reference to the more recent advances in the theoretical and empirical literature. A section focuses non-conventional or alternative exchange venues, such as dark pools with specific execution methods including Electronic Communication Networks (ECNs) and Smart Order Routing mechanisms, with special reference to their mechanics and evolution. The chapter ends buy analyzing of the perspective impact of high frequency trading on market architecture. The discussion is oriented by the practical experience adopted in major stock exchanges and execution venues around the world.