Market Making

Introduction

Market making involves continuously quoting both bid and ask prices for a security, providing liquidity to the market. Kdb+'s speed and efficiency make it a suitable platform for developing market making algorithms. This chapter explores the core components of a market making system using kdb+.

Data Acquisition and Processing

High-quality, low-latency market data is essential for effective market making.

Code snippet

// Define a table schema for market data
market_data:([]sym:symbol;time:`times$;bid:float;ask:float;bid_size:int;ask_size:int;last_price:float;last_size:int)

// Function to handle incoming market data
handle_market_data:{[data]
  // Parse incoming data
  parsed_data:parse_data[data]
  
  // Insert data into market_data table
  market_data insert parsed_data
  
  // Update market maker's internal state
  update_market_maker_state[parsed_data]
}

Order Book Management

Efficiently managing the order book is crucial for market making.

Code snippet

// Define an order book table
order_book:([]sym:symbol;side:`buy`sell;price:float;size:int;order_id:int)

// Function to submit a market order
submit_market_order:{[sym, side, size]
  // Generate order ID
  order_id:next order_id
  
  // Insert order into order book
  order_book insert ([]sym;side;0f;size;order_id)
  
  // Send order to exchange
  send_order[order_id]
}

Inventory Management

Controlling inventory levels is essential for managing risk.

Code snippet

// Calculate net inventory
net_inventory:sum order_book[`size] where side=`buy - sum order_book[`size] where side=`sell

// Adjust quotes based on inventory levels
adjust_quotes:{[net_inventory]
  // Adjust bid/ask prices and sizes based on inventory
}

Pricing Model

A robust pricing model is fundamental for profitable market making.

Code snippet

// Simple pricing model based on bid-ask spread
pricing_model:{[market_data]
  mid_price:(market_data[`bid] + market_data[`ask]) / 2
  spread:target_spread
  bid:mid_price - spread / 2
  ask:mid_price + spread / 2
  
  [bid; ask]
}

Risk Management

Market makers face various risks, including inventory risk, market risk, and operational risk.

Code snippet

// Calculate VaR for inventory
inventory_var:quantile[0.05] net_inventory * avg price

// Monitor market volatility
volatility:dev price from market_data

Order Lifecycle Management

Efficiently managing the order lifecycle is crucial for minimizing costs.

Code snippet

// Function to handle order fills and cancellations
handle_fill_or_cancel:{[order_id, status]
  // Update order book
  // Update inventory
  // Calculate profit/loss
}

Performance Optimization

Low latency is essential for market making.

• Use in-memory databases.

• Leverage vectorized operations.

• Optimize data structures.

• Minimize network latency.

Conclusion

Market making is a complex and challenging endeavor. Kdb+'s capabilities make it a suitable platform for building high-performance market making systems. By effectively managing order book, inventory, and risk, market makers can improve profitability.