Chapter 11: Trading: Background Notions and Market Microstructure

By a trade we will understand either a purchase or sale of some kind of financial instrument. Payment is made in the currency of the country where the trade is carried out. There are a wide variety of financial instruments that can be traded. These include stocks (or shares), bonds, commodities, currencies, derivatives and possibly other instruments. Sometimes, the term security is used to cover any kind of financial instrument that can be traded.

A trade takes several steps to complete. The first step consists of a seller offering to sell at a particular price and a buyer willing to buy at that price. Such a buyer and seller are matched, and a trade between them becomes possible. The actual exchange of the financial instrument and the money does not immediately take place. This process is called clearing and settlement. It can take a few days and involve third parties. Our discussion will not include the clearing and settlement functions. We will limit ourselves only to the initiation of the sale/purchase orders and the matching of buyers and sellers.