Algorithmic trading broadly refers to using computer programs to automatically execute trade orders by preset rules without human intervention. In a broad sense, it includes: execution algorithms (optimizing order execution to reduce market impact), signal algorithms (generating buy/sell signals), and High-Frequency Trading (HFT, exploiting microsecond speed advantages for arbitrage).
## Market Microstructure Fundamentals
**Order Book**: the collection of unexecuted limit orders in a securities market, divided into buy (Bid) and sell (Ask) sides. The gap between the best bid and ask is the Bid-Ask Spread — the core liquidity indicator. Tighter spreads mean more efficient markets.
**Market Impact**: when a large order executes, buying pushes prices up (or selling pushes them down), causing actual execution price to deviate from the ideal price. Market impact is the core component of institutional investors’ hidden trading costs, estimated to represent 40-60% of large fund trading costs.
**Dark Pools**: non-public institutional trading platforms allowing large orders to match and execute without appearing in public exchange order books, reducing market impact. The US has approximately 50 registered dark pools, handling about 15-20% of equity volume.
## Three Common Execution Algorithms
**TWAP (Time-Weighted Average Price)**: distributes orders evenly across a specified time window, targeting an average close to the time-weighted price. Advantages: simple, predictable. Disadvantages: insensitive to market liquidity changes; may execute at poor prices during low-liquidity periods.
**VWAP (Volume-Weighted Average Price)**: references historical volume distribution, executing more during high-volume periods and less during low-volume periods, targeting the volume-weighted average price. The world’s most widely used execution algorithm and the benchmark institutions use to evaluate execution quality.
**POV/Participation**: continuously participates at a fixed percentage of real-time market volume (e.g., 10-20%), automatically adjusting execution speed with market volume. Suited for large orders where time is not the priority and market impact control is paramount.
See [Quantitative Investing Intro](https://sunqi.org/quantitative-investing-intro-en/) and [High-Frequency Trading Analysis](https://sunqi.org/high-frequency-trading-en/).
