INVESTMENT TECHNOLOGY GROUP INC - 10-K Annual Report

INVESTMENT TECHNOLOGY GROUP, INC.
(Exact name of registrant as specified in its charter)

Common Stock, $0.01 par value	New York Stock Exchange
(Title of class)	(Name of exchange on which registered)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No o

Indicate by check mark if disclosure of delinquent filers pursuant to item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this form 10-K or any amendment to this form 10-K Yes o No ý

Indicate by check mark whether the registrant is an accelerated filer (as defined by Exchange Act Rule 12b-2)

Proxy Statement relating to the 2004 Annual Meeting of Stockholders (incorporated, in part, in Form 10-K Part III).

		Page
PART I
Item 1.	Business	1
Item 2.	Properties	17
Item 3.	Legal Proceedings	17
Item 4.	Submission of Matters to a Vote of Security Holders	17
PART II
Item 5.	Market for Registrant's Common Stock and Related Stockholder Matters	18
Item 6.	Selected Financial Data	19
Item 7.	Management's Discussion and Analysis of Financial Condition and Results of Operations	20
Item 7A.	Quantitative and Qualitative Disclosure About Market Risk	42
Item 8.	Financial Statements and Supplementary Data	44
Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	73
Item 9A.	Controls and Procedures	73
PART III
Item 10.	Directors and Executive Officers of the Registrant	73
Item 11.	Executive Compensation	73
Item 12.	Security Ownership of Certain Beneficial Owners and Management	73
Item 13.	Certain Relationships and Related Transactions	73
Item 14.	Principal Accounting Fees and Services	73
PART IV
Item 15.	Exhibits, Financial Statements, Schedules and Reports on Form 8-K	74

QuantEX, ITG ACE, TCA, ITG/Opt, SmartServer, Investment Technology Group and ITG are registered trademarks of the Investment Technology Group, Inc. companies. POSIT is a registered service mark of the POSIT Joint Venture. TriAct is a trademark of the POSIT Joint Venture. Triton, SPI SmartServer, Horizon, ITG WebAccess, ITG/Opt, ITG PRIME, ResRisk, Hoenig and AlterNet are trademarks of the Investment Technology Group, Inc. companies.

In addition to the historical information contained throughout this Annual Report on Form 10-K, there are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). All statements regarding our expected future financial position, results of operations, cash flows, dividends, financing plans, business strategies, competitive positions, plans and objectives of management for future operations, and concerning securities markets and economic trends are forward-looking statements. Although we believe our expectations reflected in such forward-looking statements are based on reasonable assumptions, there can be no assurance that such expectations will prove to have been correct. Important factors that could cause actual results to differ materially from the expectations reflected in the forward-looking statements herein include, among others, the actions of both current and potential new competitors, rapid changes in technology, fluctuations in market trading volumes, financial market volatility, evolving industry regulations, risk of errors or malfunctions in our systems or technology, cash flows into or redemptions from equity funds, effects of inflation, customer trading patterns, the success of our new products and services offerings as well as general economic and business conditions, internationally or nationally, securities, credit and financial market conditions, and adverse changes or volatility in interest rates. Certain of these factors, and other factors, are more fully discussed in Management's Discussion and Analysis of Financial Condition and Results of Operations—Issues and Uncertainties—in this Annual Report on Form 10-K, which you are encouraged to read.

Investment Technology Group, Inc. ("ITG" or the "Company") was formed as a Delaware corporation on July 22, 1983. Its principal subsidiaries include: (1) ITG Inc. and AlterNet Securities, Inc. ("AlterNet"), United States ("U.S.") broker-dealers in equity securities, (2) Hoenig Group Inc. (since the date of its acquisition on September 3, 2002) and its operating affiliates, Hoenig & Company, Inc. and Hoenig (Far East) Limited (collectively, "Hoenig"), agency soft dollar broker-dealers in equity securities in the U.S. and Hong Kong, (collectively "Hoenig") (3) Investment Technology Group Limited ("ITG Europe"), an institutional broker-dealer in Europe, (4) ITG Australia Limited ("ITG Australia"), an institutional broker-dealer in Australia, (5) ITG Canada Corp. ("ITG Canada"), an institutional broker-dealer in Canada, (6) KTG Technologies Corp. ("KTG"), a direct access provider in Canada, (7) ITG Hoenig Limited ("ITG Hong Kong"), an institutional broker-dealer in Hong Kong, and (8) ITG Software Solutions, Inc., our intangible property and software development and maintenance subsidiary in the U.S.

On September 3, 2003, ITG completed the integration of the soft dollar agency brokerage business of Hoenig & Co., Inc. into ITG Inc (herein referred to as the "Hoenig division"). Hoenig & Co., Inc. changed its name to ITG Execution Services Inc. ("ITG Execution Services") and its sole continuing business is the conduct of floor brokerage activities on the New York Stock Exchange ("NYSE") for its affiliated companies. In December 2003, ITG Hong Kong Ltd. changed its name to ITG Hoenig Limited.

We have two reportable segments: U.S. Operations and International Operations. The U.S. Operations segment provides equity trading and quantitative research services to institutional investors, brokers, money managers and alternative investment funds in the U.S. The International Operations segment includes our agency brokerage businesses in Europe, Australia, Canada and Hong Kong, as well as a research facility in Israel.

We are a full service trade execution firm that uses technology to increase the effectiveness and lower the cost of trading. With an emphasis on ongoing research, we offer the following products and services to our clients:

We generate revenues on a "per transaction" basis for all orders executed. Orders are delivered to us from our "front-end" software products, Triton, QuantEX, ITG Platform, Radical and ITG WebAccess, as well as other vendors' front-ends and direct computer-to-computer links to customers. In the U.S., orders may be executed on or through (1) POSIT, (2) TriAct, (3) our SmartServers, (4) the NYSE, (5) the American Stock Exchange, (6) certain regional exchanges, (7) the Nasdaq National Market, (8) market makers, (9) electronic communication networks ("ECNs"), systems which trade equity securities and (10) third party alternative trading systems ("ATSs"). In our International Operations, we generate revenues on a "per transaction" basis on the volume of securities executed or on the contract value of securities traded through POSIT or our Electronic Trading Desk.

POSIT was introduced in 1987 in the U.S. as a technology-based solution to the trade execution needs of quantitative and passive investment managers. It has since grown to also serve the active trading and broker-dealer communities. There are 544 clients currently using POSIT in the U.S., including corporate and government pension plans, insurance companies, bank trust departments, investment advisors, broker-dealers and mutual funds. There are 176, 58 and 21 clients using versions of POSIT in Europe, Australia and Hong Kong, respectively. In Canada, the POSIT joint venture licenses a Canadian version of the POSIT system to the Toronto Stock Exchange ("TSX"). POSIT operates as a facility of the TSX for TSX listed securities.

POSIT is an electronic stock crossing system through which clients enter buy and sell orders to trade single stocks and portfolios of equity securities among themselves in a confidential environment. Orders may be submitted to the system directly via Triton, QuantEX, Radical, ITG Platform, ITG WebAccess or other computer-to-computer links, or indirectly via ITG Electronic Trading Desk personnel. We also work in partnership with vendors of other popular trading systems, allowing users the flexibility to route orders directly to POSIT from trading products distributed by Bridge Information Systems, BRASS, Bloomberg and others.

U.S. POSIT currently accepts orders for a universe in excess of 22,000 different equity securities, but may be modified, as the need arises, to include additional equity securities. The POSIT algorithm optimizes the maximum possible number of buy and sell orders that match or "cross". Clients may specify conditions on their orders that must be satisfied, such as the requirement that the net cash resulting from buys and sells remain within specified constraints. A client may also specify a minimum number of shares to be executed for a given order. There are currently thirteen scheduled intraday crosses every business day. POSIT prices trades at the midpoint of the best bid and offer for each security at the time of the cross, based on information provided directly to the system by a third-party data vendor. Immediately after each match, clients receive electronic reports showing match results for their orders. Clients then decide whether to keep unmatched orders in the system for future matches or to execute them by other means. We recently introduced POSIT after hours, which runs twice nightly. In the POSIT after hours cross, all trades are priced at the day's closing price.

POSIT gives users the option of customizing their trading objectives and specifying additional constraints, while preserving the functionality of the existing POSIT system. This capability is referred to collectively as a "POSIT strategy." This capability allows orders that might otherwise be ineligible for POSIT to participate in the match. POSIT strategies include ResRisk, which allows users to control the risk of the unexecuted "residual" portfolio, and Pairs, which makes execution of one trade contingent on the execution of another, at or better than a given relative valuation. Clients engaging in portfolio funding, liquidation, restructuring and rebalancing transactions often utilize ResRisk. Risk arbitrage, statistical arbitrage and portfolio substitution trades are examples of transactions that can be implemented using the Pairs strategy. We also implement custom applications upon request.

Clients can also access POSIT through our brokerage subsidiary, AlterNet. AlterNet enables clients to execute trades in POSIT on a net basis, i.e.with the commission payable to us for the POSIT trade included in the price at which the client executes their POSIT trade. This feature is particularly attractive to our broker-dealer customers and AlterNet was created in response to broker-dealers' desires to have net pricing in POSIT.

The following graph illustrates the annual total share volume crossed in U.S. POSIT since 1994:

TriAct is a continuous, intra-day trading vehicle offering full anonymity, continuous execution opportunities, no market impact in respect of executions, and access to our POSIT system. TriAct provides price improvement on every transaction and opportunities for size improvement. Participants in TriAct submit orders that may be executed in one of three ways: (a) against the ongoing flow of market bound orders submitted by other ITG clients and our Electronic Trading Desk, (b) against orders from other TriAct participants (liquidity suppliers) and (c) for TriAct orders marked as eligible to participate in POSIT, in one of POSIT's thirteen intra-day crosses. Both listed and OTC securities can be traded in TriAct.

An execution in TriAct is priced between the bid/offer spread. When a liquidity supplier interacts with a market-bound order, the supplier receives 75 percent of the spread, when executing against other suppliers, or in POSIT, the supplier receives 50 percent of the spread. TriAct allows traders to control how their orders are traded by offering order expiration time, control of the rate at which orders are traded (1, 5, or 15 minute intervals), price protection, and portfolio buy/sell and minimum share constraints. In addition, TriAct enforces the tick/bid test rules for short sales of securities. TriAct is accessible from Triton, Radical, ITG Platform and QuantEX as well as third party trade order management systems and ITG's Electronic Trading Desk.

The Electronic Trading Desk is a full-service, agency execution group that specializes in lowering transaction costs for our clients through the utilization of our proprietary trading products, including extensive use of POSIT, TriAct and our SmartServers.

Clients use QuantEX, Triton, Radical, ITG Platform and ITG WebAccess to deliver lists of orders electronically to our desk and, as orders are executed by the desk, reports are automatically delivered electronically back to the client. For clients that do not send orders electronically to ITG execution destinations through our Client Site Trading Products, our account executives receive orders by

telephone, fax or e-mail. The Electronic Trading Desk personnel are able to assist customers with decision support analyses generated during the execution of trades. Clients give our active traders single stock orders or lists of orders to work throughout the day as well as residual trades from unfilled orders in POSIT.

For order completion outside of POSIT, the Electronic Trading Desk utilizes numerous sources of liquidity to complete trades. The Electronic Trading Desk will use QuantEX and Triton to route orders to multiple market destinations, including primary exchanges, regional exchanges, over-the-counter market makers, ECNs and ATSs, or actively seek the contra side of client orders by soliciting interest among other clients.

The Portfolio Trading Group focuses on agency list or program trading. By employing a step-by-step process that leverages technology and access to multiple sources of liquidity, the Portfolio Trading Group seeks to systematically achieve high quality executions for the client by controlling transaction costs. A client program is evaluated with a pre-trade analysis to determine aggregate portfolio characteristics, estimate market impact, and to quantify risk. The group implements a number of sophisticated trading strategies using QuantEX and Triton to meet execution objectives. After the execution is completed, we provide the client with comprehensive reports analyzing execution results utilizing ITG Research products.

QuantEX is our Unix-based list-oriented order management and execution system. QuantEX provides clients with functionality to efficiently manage every step of the trading process: from trade decision-making to execution and order tracking. From the QuantEX desktop, users can access fully-integrated real-time and historical data and analytics, route and execute orders to OTC and Listed electronic market centers, perform trade management functions, and implement customizable rules-based automated trading strategies.

Using QuantEX's blotter management functionality, users can view and act upon their orders as single orders or portfolios of orders. From the blotter, orders can be routed to OTC and Listed electronic market centers, ITG's agency trading desk, the POSIT cross, ITG's family of SmartServers, and certain third party brokers through our on RouteNet order routing service. Clients can use the blotter to monitor order status and portfolio statistics. Since real-time and historical data are fully integrated with QuantEX, users can make trading decisions and track trading performance (e.g., performance against a benchmark, progress against completion) on single orders or portfolios.

QuantEX provides a rule-based decision support system that allows traders to quantify their trading processes to create automated strategies. This allows construction of custom trading analytics and algorithms.

QuantEX provides access to a broad selection of market data and models, including real-time quote and trade data, historical price data and various analytics derived from quote and price data. QuantEX also has integrated access to certain proprietary ITG trading analytics such as ITG ACE and ITG Risk Models.

Revenues are generated through commissions and transaction fees charged for each trade electronically routed through QuantEX to the many destinations available from the application. We do not derive royalties from the sale or licensing of the QuantEX software. As of December 31, 2003, there were 106 installations of QuantEX at 38 client sites in the U.S.

Triton, released in 2003, is our next generation list-oriented order management and execution system bringing a complete set of integrated execution and analytical tools to the user's desktop. Triton

supports similar functionality as QuantEX, but has been built with a Windows-based architecture that easily allows new features to be added.

Triton provides clients with the functionality to efficiently manage every step of the trading process: from trade decision-making to execution and order tracking. From the Triton desktop, users will access fully-integrated real-time and historical data and analytics, route and execute orders to OTC and listed electronic market centers, perform trade management functions, and implement customizable rules-based automated trading strategies.

Triton improves upon QuantEX in several key areas. Its blotter management capabilities allow for sophisticated portfolio aggregation and user customization. Additionally, Triton has an open data architecture and development environment that will allow our customers to develop automated trading strategies using industry standard programming languages. Triton provides more fully integrated access to ITG's proprietary pre-trade, execution and post-trade analytics and is also a multi-user system.

Revenues are generated through commissions and transaction fees charged for each trade electronically routed through Triton and executed on one of the many destinations available from the application. We do not derive royalties from the sale or licensing of the Triton software. As of December 31, 2003, there were 37 installations of Triton at 26 client sites in the U.S.

ITG Platform provides clients with seamless connectivity from their desktop to a variety of execution destinations. We continue to create links to additional liquidity sources where appropriate. Orders may be corrected or cancelled electronically, and all reports are delivered electronically back to the ITG Platform. ITG Platform also supports special trading interfaces as needed by POSIT strategies and SmartServers. Allocation information can be associated with executions in the ITG Platform and delivered to us electronically. ITG Platform has access to historical data through the ITG Data Center, including a wide array of analytics, such as average historical share volumes, dollar volumes, volatility and historical spread statistics. ITG Platform also provides clients enhanced list trading capabilities, access to ECN order types and, in some cases, access to real time Nasdaq Level II data as well as the ability to communicate with us via the Internet or through private networks.

ITG Platform was intended for broad distribution to institutional clients, so it was designed to run in conventional Windows environments alongside other applications, and be inexpensive to install, maintain and support.

As of December 31, 2003, there were 471 installations of ITG Platform at 122 client sites in the U.S.

Radical is our order routing and execution system primarily targeted at the active trading community. From the Radical desktop, users can access fully-integrated real-time data and analytics, route and execute single or multiple orders to OTC and Listed electronic market centers, perform trade management functions, and implement customizable rules-based order types.

From the Radical Level II window and staged orders page, orders can be routed to OTC and listed electronic market centers, ITG's agency trading desk, the POSIT cross, ITG's family of SmartServers, and certain third party brokers through RouteNet. Clients can use Radical account/order management functionality to monitor order status and position information. Since real-time and historical data are fully integrated with Radical, users can make trading decisions and track intra-day profit and loss statistics (e.g., performance against a benchmark, progress against completion) on single orders or portfolios.

Radical is a Windows-based thin-client application architected for speed and user interface flexibility.

As of December 31, 2003, there were 59 installations of Radical at client sites in the U.S.

ITG WebAccess allows users to take advantage of our advanced trading services from anywhere through the Internet. ITG WebAccess is a browser-based order routing tool for sending orders to POSIT and the Electronic Trading Desk.

SmartServers are automated trading destinations that accept orders from client workstations and execute them using a computerized trading strategy. All SmartServers are physically located at ITG, and are accessed electronically by clients via the ITG Platform, Radical, Triton or QuantEX, via direct connections or via our Electronic Trading Desk. Each SmartServer is an automated trading agent pre-programmed with a particular trading style. By using these agents, traders can focus their attention on a subset of their orders, letting the SmartServer trade the rest of the orders on the list.

Currently, we provide four strategy-based servers: Horizon SmartServer, SPI SmartServer, activePeg SmartServer and the OTC Router. The Horizon SmartServer is designed to allow clients to direct their orders to us to be executed in a manner designed to closely track a security's volume-weighted average price, or VWAP, throughout the trading day. The Horizon SmartServer analyzes liquidity and market conditions continuously throughout the day and determines the appropriate order size and order price to approximate the VWAP. Clients may choose to execute relative to the VWAP price for the entire trading day, or for some subset of that trading day.

The SPI SmartServer is designed to improve trading performance of small- and medium-size orders that are traditionally executed as market orders. The SPI SmartServer analyzes momentum, volatility, and indicators to decide how and when to trade an order to improve upon the results expected from a market order. Clients may choose a time horizon for each order, anywhere from 5 to 30 minutes, whereby the SPI SmartServer monitors the market and determines the timing, pricing, and size of outgoing orders using real-time market data.

ITG's activePeg SmartServer is aimed at traders who are benchmarked to a decision-price (pre-trade) benchmark or who would like to execute as quickly as possible while still minimizing the market impact of their trades. Traders can specify an expiration time to explicitly define the time horizon for a wave of orders, or they can let the strategy choose an appropriate time horizon for each

order individually. The trading algorithm uses a blended passive/aggressive style to work orders automatically over the time horizon, supplying liquidity passively with the objective of attracting executions at favorable prices but also issuing carefully timed aggressive orders to keep the trade on schedule. Care is taken by all components of the algorithm to blend in with other orders in the market and minimize the leakage of information to other parties in the marketplace.

The OTC Router provides convenient electronic access to the OTC market, a single portal through which traders can access all OTC destinations. For marketable orders, the OTC Router sweeps available liquidity from all destinations using SuperMontage and direct connections to all major ECNs. The OTC Router features liquidity-hunting algorithms that rapidly locate all hidden liquidity at each price level without leaking any information to the market. For non-marketable limit orders, the OTC Router supports all major ECN features to eliminate the guesswork from posting liquidity. Instead of keeping track of which ECNs support each of the various order types, traders specify the features they want and let the OTC Router determine the appropriate venue. Whenever the Router has a choice between several destinations, it uses historical execution quality to determine the best routing.

ITG's Analytical Products and Research group ("APR") has developed an integrated suite of tools that address every stage of the investment process, from portfolio construction to pre-trade analysis, on to trade execution and post-trade cost and performance reporting. These products are available for direct client use, enabling clients to measure, analyze, and control the cost of trading. The guiding principle of research and product development in this area is to increase investment returns by lowering transaction costs, managing risk, and optimizing portfolio decisions. As part of its activities, APR also publishes and distributes studies on topics of interest to our clients. In the same way users of fundamental research compensate the brokerage firms that provide such research (i.e., directing commissions to such brokerage firms), our clients reward us for these value-added research services.

In addition to its role in our overall research and development effort, APR provides both sales and consulting services to our clients and prospective clients. Taken together, these activities are a key component of our overall relationship development and maintenance activities. Consulting encompasses a set of value-added services for the benefit of our clients. These services break down into four main categories: product support, development of customized pre-trade and post-trade reporting vehicles, customization of analytical software, and provision of quantitative research. In its sales capacity, APR introduces clients and prospective clients to the full range of products and services offered by our company, and provides information about features, pricing and functional specifications. The sales process includes establishment of an in-depth understanding of client practices and requirements, followed by design and presentation of integrated solutions based on our products, described below.

Transaction cost measurement is critical to controlling trading costs and has become a focus of the international trading community. TCA, ITG's web-based transaction cost analysis tool, identifies, measures and analyzes trading costs, and delivers prompt daily results. Integrated with our Triton front end, TCA reports are available anytime during the trading day. Clients can generate a large variety of standard reports built into the browser-based application and customized reports can be produced based on specific client requests.

The TCA post-trade reporting facility allows users to compare actual executed prices to user-selected benchmark prices in order to help assess trade execution quality. Over 30 benchmarks are available as part of the core product, including the volume-weighted average price, closing price, pre-trade midquote and last trade. Customized benchmarks can be produced based on client requests.

ITG ACE is a mathematical model providing transaction cost forecasts for single stock executions or portfolio trades. Among other features, ITG ACE can compute optimal trading strategies that balance price impact and opportunity costs.

ITG ACE can be used by investment professionals as a tool for cost analysis at a variety of decision points. Portfolio managers can factor expected transaction costs into portfolio rebalancing decisions, traders can assess trade execution before placing orders into the market, and managers can benchmark trading performance, handicapping trades for execution difficulty, post-trade.

The ACE model also is incorporated in several other ITG products, including TCA, Triton, ITG/Opt, and ResRisk+.

The ITG Peer Group Database provides buyside institutions and their clients with a measure of a firm's relative trading costs. Rather than comparing costs to a fixed benchmark, the system analyzes a firm's trading costs relative to the trading costs of its peers, trading similar stocks under similar circumstances. Performance rankings also can be calculated for a firm's traders, portfolio managers, and brokers. While TCA provides clients with tactical and strategic measures of trading cost measurement, the ITG Peer Group Database provides a context for judging a firm's performance.

ITG/Opt is a computer-based equity portfolio selection system, employing advanced optimization techniques to help investors construct portfolios that meet their investment objectives. Special features of the system make it particularly useful to "long/short" and taxable investors, as well as any investor seeking to control transaction costs. ITG/Opt is usually delivered as a "turnkey" system that includes software and, in some cases, hardware and data. Included in the service is telephone and on-site support to assist in training and integration of the system with the user's other investment systems and databases, with the goal of tightly coupling ITG/Opt to the client's workflow. In addition to its core portfolio construction capabilities, ITG/Opt has powerful back testing and batch scheduling features that permit efficient researching of new or refined investment strategies. The system, which is targeted at highly sophisticated investment applications, is offered primarily to our largest clients.

Under the Investment Company Act of 1940, mutual funds and their directors/trustees are required to make a good faith determination of the fair value of a fund's portfolio securities when market quotations are not readily available. The ITG Fair Value Model facilitates such fair value computations.

In most instances, an open-end mutual fund's NAV is calculated based on the closing price for each security underlying the fund's portfolio. For mutual funds with foreign or thinly traded assets, however, this practice may raise concerns regarding the "fair value" of a fund's securities where the underlying securities' local markets close prior to the close of the U.S. markets and therefore do not account for market events in the U.S. or other subsequent events.

The ITG Fair Value Model is an independent service, which provides fair value adjustment factors to assist in determining whether to adjust securities' closing prices when market quotations are not readily available. In historical tests of international funds, the ITG Fair Value Model has significantly reduced the opportunity for mutual fund market timing. Covering all major global equity markets, the

model supplies a monitoring report for each country, with information on universe coverage and the model's historic performance. The information is updated daily and made available shortly after the U.S. market close for downloading to the client site.

ITG Risk Models are equity risk models that assist portfolio managers, researchers and traders in measuring, analyzing and managing risk in a variety of market environments and applications. ITG Risk Models can be used to estimate tracking error relative to benchmark portfolios, forecast total volatility of long/short portfolios, construct market/sector/industry-neutral trade lists, measure exposure and decompose risk, as well as create optimal portfolios in conjunction with an equity portfolio selection system such as ITG/Opt. U.S. Equity Risk Models are delivered for daily, weekly, and monthly horizons. Country-specific and Global Risk Models also are available.

ResRisk+ is a multifaceted optimizer, enabling portfolio managers and traders to assess and control portfolio risk characteristics through any series of executions. ResRisk+ is not an automated trading tool, rather a "power assist" that provides users with intelligently constructed trading scenarios, while preserving full control over executions.

A capability unique to ITG, ResRisk+ allows users to target the portfolio and stock-specific risks of greatest concern, adjusting controls as a portfolio's composition shifts. It is used to quantify risk levels before and after execution, construct waves of trades to minimize selected costs and risks, and move portfolios progressively closer to their benchmarks and targeted risk characteristics, including liquidity, tracking error, sector balance, and cash imbalance. As such, it is a tool for controlling risk through manager transitions, rebalancings, multiple POSIT matches, or any other transactions requiring meticulous control of portfolio characteristics.

We actively market and distribute independent third-party and our own analytical and research products and services to professional investment managers with the expectation that these managers will generate specified amounts of commission revenues. These types of arrangements are referred to as soft dollar arrangements and are pursued by ITG Europe, ITG Hong Kong, ITG Canada and, in the U.S., primarily by our Hoenig division.

An important aspect of our soft dollar programs involves identifying independent sources of investment research and information that adds value to our customers' investment decision-making process. We seek research services from private research groups, independent analysts, information services organizations and other entities in the U.S. and overseas and collaborate with these providers to obtain products and services that assist our investment management customers in carrying out their investment management responsibilities.

We obtain research products and services from numerous independent sources and regularly communicate the availability and suitability of these products and services to our customers. Through our relationships with independent research analysts and other service providers, we offer a wide variety of specialized and sophisticated research products and services, including fundamental research, economic research and forecasting, quantitative analysis, global research, quotation, news and database systems, fixed income research, software for securities analysis, portfolio management and performance measurement services. Many of these products and services are available directly from the research

analyst or service provider, as well as from other brokerage firms, including specialty firms offering only independent research and firms that also provide proprietary research.

Our relationship with an independent research provider typically is one in which the research organization agrees to supply research products or services to our customers for a specified period of time (generally one year or less), and we agree to pay for such research. All of our research relationships are non-exclusive arrangements.

In addition, we engage in directed brokerage arrangements with certain institutional investors, particularly hedge funds, private investment funds and investment partnerships, corporations and pension plans. A directed brokerage arrangement is a contractual arrangement between a brokerage firm and its customer whereby the broker pays certain expenses of the customer, such as custodian fees, or refunds to the customer a portion of commissions paid in consideration of the customer directing commission business to the broker. These types of arrangements are commonly known as directed brokerage because the customer instructs its money managers to direct trades for the customer's account to the broker with whom the customer has a directed brokerage arrangement. In the case of pension plans, directed brokerage arrangements often involve the payment of commission refunds to the pension plan and are often referred to as "commission recapture" programs.

ITG Europe was founded in 1998 as an institutional broker focusing on European equities and provides institutional investors with most of the products and services provided to our U.S. customer base, including POSIT, Electronic Trading Desk, Soft Dollar Programs, and research products such as TCA and ACE. Eight daily European POSIT matches are currently run dealing in equities from the UK, France, Germany, Switzerland, the Netherlands, Spain, Italy, Belgium, Sweden, Finland and Ireland. A flexible range of electronic connectivity options into POSIT and our European trading desk are provided through ITG Platform, Financial Information Exchange protocol and other tailored solutions. ITG Europe had in excess of 200 clients, with its trading capabilities covering 16 European markets.

In 1997, we launched ITG Australia Limited, an international brokerage firm that applies our cost-saving execution and transaction research technologies to Australian equity trading. ITG Australia provides institutional investors from Australia, Asia, North America and Europe dealing in Australia many of the products and services provided to our U.S. customer base, including POSIT and certain other research and dealing products such as TCA, automated trading strategies and performance attribution. ITG Australia has achieved a high degree of penetration into the institutional investor base in Australia.

In April 2000, we formed our Canadian subsidiary, ITG Canada Corp., which functions as an institutional broker-dealer in Canada focusing on Canadian equities. ITG Canada provides institutions access to many of the ITG products provided to our U.S. customer base. In June of 2001, the POSIT joint venture entered into an agreement to license a Canadian version of the POSIT system to the TSX. This Canadian version of POSIT was launched in 2002 and operates as a facility of the TSX for TSX listed securities.

On September 28, 2001, we acquired the KastenNet business of Kasten Chase Applied Research Limited for $4.7 million. KastenNet is a direct access provider that employs proprietary technology to

connect its Canadian broker-dealer clients to the TSX and U.S. markets. We acquired the assets of KastenNet via KTG, a wholly-owned subsidiary of ITG.

In June 2001, we formed ITG Hong Kong Ltd. ITG Hong Kong is an institutional broker-dealer focusing on applying ITG's cost saving trading technologies in the Asian markets. POSIT was launched in Hong Kong in June 2002 for the matching of Hong Kong equities. In addition to POSIT, ITG Hong Kong provides a range of research and dealing products such as automated trading strategies and TCA. ITG Hong Kong has continued to increase its client penetration in the Asian markets, with clients from Asia, North America and Europe.

On September 3, 2002 as a result of the acquisition of Hoenig Group Inc., by ITG, the Hong Kong operations were substantially boosted by the addition of Hoenig (Far East) Limited, a Hong Kong based, wholly owned broker-dealer subsidiary. Hoenig (Far East) provides trade execution, independent research and other services in Asian markets to alternative investment funds and money managers.

During December 2003, ITG Hong Kong Ltd. changed its name to ITG Hoenig Limited in preparation for the merger of ITG Hong Kong and Hoenig (Far East), which was subsequently carried out on February 27, 2004.

On September 3, 2002, we acquired Hoenig Group Inc., which, through its operating affiliates, provides trade execution, independent research and other services to alternative investment funds and money managers globally.

Under the terms of the transaction, Hoenig Group Inc. stockholders received approximately $105.0 million, or $11.58 per share, of which approximately $2.4 million, or $0.23 per share, have been placed into an escrow account. Such escrow requirement relates to the pursuit, on behalf of Hoenig Group Inc. shareholders, of certain insurance and other claims in connection with the $7.2 million pre-tax loss announced by Hoenig Group Inc. on May 9, 2002 as a result of unauthorized trading in foreign securities, by a former employee of Hoenig & Company Limited, in violation of Hoenig's policies and procedures.

In connection with this acquisition, we incurred transaction costs consisting primarily of professional fees of approximately $2.8 million, which have been included in the purchase price. The purchase price was allocated to those assets acquired and liabilities assumed based on the fair value of Hoenig's net assets as of September 3, 2002. Approximately $0.5 million was allocated to the "Hoenig" trade name, which is being amortized over three years. The excess of the purchase price over the estimated fair value of the net assets acquired was $56.8 million and has been allocated to goodwill. The results of operations of Hoenig have been included in our results of operations since September 3, 2002.

Certain of our U.S. and non-U.S. subsidiaries are subject to various securities regulations and capital adequacy requirements promulgated by the regulatory and exchange authorities of the countries in which they operate. In the U.S., the Securities and Exchange Commission ("SEC") is the federal agency responsible for the administration of the federal securities laws, with the regulation of broker-dealers primarily delegated to self-regulatory organizations ("SROs"), principally the National Association of Securities Dealers, Inc. ("NASD") and national securities exchanges. In addition to federal oversight, securities firms are also subject to regulation by state securities administrators in those states in which they conduct business. Furthermore, our non-US subsidiaries are subject to regulation by central banks and regulatory bodies in those jurisdictions where each subsidiary is authorized to do business. The SROs, central banks and regulatory bodies conduct periodic examinations of our broker-dealers subsidiaries in accordance with the rules they have adopted and amended from time to time.

Broker-dealers are subject to regulations covering all aspects of the securities business, including sales methods, trade practices among broker-dealers, use and safekeeping of clients' funds and

securities, capital structure of securities firms, record-keeping and conduct of directors, officers and employees. Additional legislation, changes in the interpretation or enforcement of existing laws and rules may directly affect the mode of operation and profitability of broker-dealers. The SEC, SROs, state securities commissions and foreign regulatory authorities may conduct administrative proceedings, which can result in censure, fine, the issuance of cease-and-desist orders or the suspension or expulsion of a broker-dealer, its officers or employees. The principal purpose of regulation and discipline of broker-dealers is the protection of clients and the securities markets, rather than the protection of creditors and stockholders of broker-dealers.

ITG Inc., AlterNet and ITG Execution Services are required by law to belong to the Securities Investor Protection Corporation. In the event of a U.S. broker-dealer's insolvency, the Securities Investor Protection Corporation fund provides protection for client accounts up to $500,000 per customer, with a limitation of $100,000 on claims for cash balances. ITG Canada is required by Canadian law to belong to the Canadian Investors Protection Fund ("CIPF"). In the event of a Canadian broker-dealer's insolvency, CIPF provides protection for client accounts up to 1,000,000 Canadian dollars per customer.

From the formation of the POSIT joint venture until the adoption of Regulation ATS, POSIT operated under a "no-action" letter from the SEC staff that it would not recommend that the SEC commence an enforcement action if POSIT were operated without registering as an exchange. We are currently operating POSIT and TriAct as part of our broker-dealer operations in accordance with Regulation ATS. Accordingly, neither POSIT nor TriAct are registered with the SEC as an exchange. There can be no assurance that the SEC will not in the future seek to impose more stringent regulatory requirements on the operation of alternative trading systems such as POSIT or TriAct. In addition, certain of the securities exchanges have actively sought to have more stringent regulatory requirements imposed upon automated trade execution systems. There can be no assurance that Congress will not enact additional legislation applicable to alternative trading systems.

ITG Inc., AlterNet and ITG Execution Services are subject to the Uniform Net Capital Rule (Rule 15c3-1) under the Exchange Act, which requires the maintenance of minimum net capital. ITG Inc. has elected to use the alternative method permitted by Rule 15c3-1, which requires that ITG Inc. maintain minimum net capital equal to the greater of $250,000 or 2% of aggregate debit balances arising from customer transactions. AlterNet and ITG Execution Services have elected to use the basic method permitted by Rule 15c3-1, which requires that they maintain minimum net capital equal to the greater of $100,000 for AlterNet and $5,000 for ITG Execution Services, or 6²/3% of aggregate indebtedness.

At December 31, 2003, ITG Inc., AlterNet and ITG Execution Services had net capital of $107.3 million, $3.6 million and $3.9 million, respectively, of which $107.0 million, $3.5 million and $3.9 million, respectively, was in excess of required net capital.

In addition, our Canadian, Australian, European and Asian operations had regulatory capital in excess of the minimum requirements applicable to each business as of December 31, 2003 of approximately $8.9 million, $3.7 million, $27.1 million and $6.7 million, respectively.

As of December 31, 2003, ITG Inc. held a $4.3 million cash balance on behalf of its Hoenig division in a segregated deposit account at its clearing broker, Jefferies and Company, Inc., for the benefit of customers under certain directed brokerage arrangements.

Although we believe that the combination of our existing net regulatory capital and operating cash flows will be sufficient to meet regulatory capital requirements for our subsidiaries, a shortfall in net regulatory capital would have a material adverse effect on our business and our results of operations.

In 1987, Jefferies & Company, Inc. and BARRA Inc. ("Barra") formed a joint venture for the purpose of developing and marketing POSIT. In 1993, Jefferies & Company, Inc. assigned all of its rights relating to the joint venture and the license agreement, discussed below, to us.

The technology used to operate POSIT in the U.S. is licensed to us pursuant to a perpetual license agreement between ITG Inc. and the POSIT joint venture. The license agreement grants ITG Inc. the exclusive right to use certain proprietary software necessary to the continued operation of POSIT in the U.S. and a non-exclusive license to use proprietary software that operates in conjunction with POSIT.

The license agreement permits Barra on behalf of the joint venture to terminate the agreement upon certain events of bankruptcy or insolvency or upon an uncured breach by ITG Inc. of certain covenants, the performance of which are all within our control. Although we do not believe that we will experience difficulty in complying with our obligations under the license agreement, any termination of the license agreement resulting from an uncured default would have a material adverse effect on us.

Under the license agreement and the terms of the joint venture, Barra continues to provide certain support services to ITG Inc. in connection with the operation of POSIT, including software updates and the availability of experienced personnel. Barra also provides support for the development and maintenance of POSIT.

Under the terms of the joint venture, Barra generally has the right to approve any sale, transfer, assignment or encumbrance of our interest in the joint venture. The POSIT joint venture may earn a royalty from licensing the POSIT technology to other businesses. The joint venture licensed to ITG Australia, ITG Europe and ITG Hong Kong the right to use the POSIT technology for crossing Australian, European and Asian equity securities. The POSIT joint venture has also licensed the TriAct technology to the Company on an exclusive basis.

Under the license agreements, ITG Inc., ITG Australia, ITG Europe and ITG Hong Kong pay quarterly royalties to the POSIT joint venture equal to specified percentages of the transaction fees we charge on each share crossed through POSIT. For the years ended December 31, 2003, 2002, and 2001, we paid aggregate royalties to the POSIT Joint Venture of $16.7 million, $19.6 million, and $23.7 million, respectively, under the license agreements.

The automated trade execution and analysis services that we offer compete with services offered by leading brokerage firms and transaction processing firms, and with providers of electronic trading, trade order management systems and financial information services. POSIT also competes with various national and regional securities exchanges and execution facilities, the Nasdaq National Market, ATSs and ECNs, as well as other share matching systems for trade execution services. In addition, the number of trading products that compete with our Client Site Trading Products has been increasing. Many of our competitors have substantially greater financial, research and development and other resources. We believe that our services compete on the basis of access to liquidity, transaction cost and market impact cost reduction, timeliness of execution and probability of trade completion. Although we believe that POSIT, TriAct, QuantEX, Triton, Radical, ITG Platform, SmartServers, the Electronic Trading Desk and our Analytical Products and Research services have established certain competitive advantages, our ability to maintain these advantages will require continued identification of enhancements to our products, investment in the development of our services, additional marketing activities and customer support services. There can be no assurance that we will have sufficient resources to continue to make this investment, that our competitors will not devote significantly more resources to competing services or that we will otherwise be successful in maintaining our current competitive advantages. In addition, we cannot predict the effect that changes in regulations applicable to our business may have on the competitive environment.

We devote a significant portion of our resources to the development and improvement of technology-based services. Important aspects of our research and development effort include enhancements of existing software, the ongoing development of new software and services and investment in technology to enhance our efficiency. In our consolidated statements of income, we expensed research and development costs amounting to $24.1 million, $23.0 million, and $19.7 million for the years ended December 31, 2003, 2002, and 2001, respectively.

The development of technology-based services is a complex and time-consuming process. New products and enhancements to existing products can require long development and testing periods. Significant delays in new product releases or significant problems in creating new products could negatively impact our revenues.

Our success is dependent, in part, upon our proprietary intellectual property. We generally rely upon patents, copyrights, trademarks and trade secrets to establish and protect our rights in our proprietary technology, methods and products. A third party may still try to challenge, invalidate or circumvent the protective mechanisms that we select. We cannot assure that any of the rights granted under any patent, copyright or trademark that we may obtain will protect our competitive advantages. In addition, the laws of some foreign countries may not protect our proprietary rights to the same extent as the laws of the U.S.

In the past several years, there has been a proliferation of so-called "business method patents" applicable to the computer and financial services industries. There has also been a substantial increase in the number of such patent applications filed. Under current law, U.S. patent applications remain secret for 18 months and may, depending upon where else such applications are filed, remain secret until issuance of a patent. In light of these factors, it is not economically practicable to determine in advance whether our products or services may infringe the present or future patent rights of others. We believe that factors such as technological and creative skills of our personnel, new product developments, frequent product enhancements, name recognition and reliable product maintenance are essential to establishing and maintaining a state-of-the-art technological system. There can be no assurance that we will be able to protect our technology from disclosure or that others will not develop technologies that are similar or superior to our technology. It is likely that from time to time, we will receive notices from others of claims or potential claims of intellectual property infringement or we may be called upon to defend a joint venture partner, customer, vendee or licensee against such third party claims. Responding to these kinds of claims, regardless of merit, could consume valuable time, result in costly litigation or cause delays, all of which could have a material adverse effect on us. Responding to these claims could also require us to enter into royalty or licensing agreements with the third parties claiming infringement. Such royalty or licensing agreements, if available, may not be available on terms acceptable to us.

As of December 31, 2003, we employed 607 personnel globally. Our U.S. Operations employed 431 personnel and our International Operations employed 176 personnel at that date.

Our annual reports on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K are available without charge on our web site at http://www.itginc.com/investor. You may also obtain copies of our reports without charge by writing to: Investment Technology Group, Inc., 380 Madison Avenue, New York, NY, 10017, attn: Investor Relations.

Our principal offices are located at 380 Madison Avenue in New York, New York. We currently lease the entire 4^th floor and a portion of the 5^th and 7^th floors or approximately 83,400 square feet of office space. The fifteen-year lease terms for the 4^th and 5^th floors and the thirteen-year lease term for the 7^th floor expire in January 2013.

We maintain a research, development and technical support services facility in Culver City, California where we occupy approximately 78,000 square feet of office space. We lease the California facility pursuant to lease agreements that expire in December 2005.

Additionally, we have a backup and regional office in Boston, Massachusetts where we occupy approximately 21,300 square feet of office space. The ten-year lease term for this space expires in April 2005.

The Hoenig division maintains an office in Rye Brook, New York where we occupy approximately 28,000 square feet of office space. The lease agreement expires in December 2010.

We have a research facility in Herzliya, Israel where we occupy approximately 7,800 square feet of office space. We lease the Israel space pursuant to a seven-year lease agreement that expires in December 2008.

ITG Canada has offices in Toronto, Canada where we occupy approximately 7,800 square feet of office space pursuant to two leases expiring in December 2007 and August 2008, respectively. In addition, KTG has approximately 4,800 square feet of office space under a lease expiring in May 2013.

ITG Europe has offices in Dublin, Ireland and London, England where we occupy approximately 4,000 and 5,000 square feet of office space, respectively. We lease the Dublin space pursuant to a twenty-year lease agreement that expires in July 2018 and we lease the London space pursuant to a seven-year lease agreement that expires in July 2005.

ITG Australia has trading facilities in Melbourne and Sydney, Australia where we occupy approximately 4,600 and 2,700 square feet of office space, respectively. We lease the Melbourne space pursuant to a three-year lease agreement that expires in June 2005 and we lease the Sydney space pursuant to a five-year lease agreement that expires in February 2006.

Our Hong Kong operations occupy approximately 6,800 square feet of office space. The lease agreement expires in June 2004. We are currently negotiating with the landlord to extend our lease for an additional three years.

Except as described below, we are not a party to any pending legal proceedings other than claims and lawsuits arising in the ordinary course of business. We do not believe these proceedings will have a material adverse effect on our financial position or results of operations.

In March 2004, we were served with a complaint by John Wald and Pendelton Trading Systems, Inc. (collectively "Pendelton") asserting that certain features of ITG ACE and our Limit Order Model infringe Pendelton's U.S. Patent No. 6,493,682 (the "Pendelton Patent"). It is our position that we are not infringing the Pendelton Patent and that such claim is without merit. We plan to vigorously defend such claim. However, intellectual property disputes are subject to inherent uncertainties and there can be no assurance that such claim will be resolved favorably to us or that it would not have a material adverse effect on us.

There were no matters submitted to a vote of security holders during the fourth quarter ended December 31, 2003.

Item 5. Market for Registrant's Common Stock and Related Stockholder Matters

The following table sets forth, for the periods indicated, the range of the high and low closing sales prices per share of our common stock as reported on the New York Stock Exchange.

	High	Low
2002
First Quarter	54.15	37.51
Second Quarter	51.23	30.31
Third Quarter	37.40	27.87
Fourth Quarter	33.36	21.31
2003
First Quarter	24.27	11.06
Second Quarter	19.29	11.51
Third Quarter	21.12	16.50
Fourth Quarter	20.80	15.61

On March 2, 2004, the closing sales price per share for our common stock as reported on the New York Stock Exchange was $15.55. On March 2, 2004, we believe that our common stock was held by approximately 10,500 stockholders of record or through nominees in street name accounts with brokers.

In the beginning of 2003, we had a remaining Board of Directors authorization to repurchase an aggregate of 3.0 million additional shares of our common stock pursuant to our share repurchase program. The share repurchase program was effected from time to time, depending on market conditions and other factors, through open market purchases and privately negotiated transactions. As of December 31, 2003, we repurchased all shares permitted under this share repurchase program authorization.

During the first quarter of 2004, our Board of Directors authorized the repurchase of 3.0 million additional shares of our common stock and we have 2.0 million shares remaining for repurchase under such authorization.

Our dividend policy is to retain earnings to finance the operations and expansion of our businesses. We do not anticipate paying any cash dividends on our common stock at this time.

The selected Consolidated Statement of Income data and the Consolidated Statement of Financial Condition data presented below as of and for each of the years in the five-year period ended December 31, 2003, are derived from our consolidated financial statements, which financial statements have been audited by KPMG LLP, our independent auditors. Earnings per share information prior to 2001 have been retroactively restated to reflect our three-for-two stock split in December 2001. Such selected financial data should be read in connection with the consolidated financial statements contained in this report.

Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis should be read in conjunction with our consolidated financial statements, including the notes thereto.

We have two reportable segments: U.S. Operations and International Operations. The U.S. Operations segment provides equity trading and research services to institutional investors, brokers and alternative investment funds and money managers in the U.S. The International Operations segment includes our agency brokerage businesses in Australia, Canada, Europe and Hong Kong, as well as a research facility in Israel.

We generate substantially all of our revenues from the following three products and services ("Product Revenues"):

Revenues primarily consist of commissions from customers' use of our trade execution and analytical and research services. Because these commissions are paid on a per-transaction basis, revenues fluctuate from period to period depending on (i) the volume of securities traded through our services in the U.S. and Canada, and (ii) the contract value of securities traded in Europe, Australia and Hong Kong.

Expenses consist of compensation and employee benefits, transaction processing, software royalties, occupancy and equipment, telecommunications and data processing services, restructuring charges, and other general and administrative expenses.

Our U.S. operations faced a challenging economic environment in 2003 with lower levels of portfolio turnover and continued pricing pressure in the U.S. equity markets. Total institutional commission dollars paid in the U.S. equity market have declined approximately 15% versus the prior year with a significant portion of the institutional order flow allocated for fundamental research commitments, soft dollar obligations or directed for commission recapture. The area that has suffered the most from this decline is the execution-only commission pool, which is ITG's historical base. In addition to difficult market conditions, 2003 brought an increase in competition from electronic execution providers and from traditional broker-dealers. In a year where market volatility reached historic lows, large broker-dealers aggressively used capital to compete for the portfolio trades which have been traditionally a core component of both POSIT and our Electronic Trading Desk. In this environment, ITG's U.S. domestic revenues declined 21%. Excluding the incremental revenues generated by Hoenig since its acquisition on September 3, 2002, ITG's U.S. domestic revenues declined by 28%.

Our international operations fared better, achieving record revenues of $60.2 million for 2003. According to London Stock Exchange ("LSE") statistics, the value of the U.K. equity customer business in the U.K. grew a modest 1.6% for the year. Our European business grew at a much faster pace, with ITG Europe's market share of LSE equity customer business value traded for the year increasing to 1.44% from 1.12% in 2002. This increase in market share was attributable to a range of factors including winning new clients with TCA, developing our portfolio trading services and generally increasing POSIT executions. In Canada, our second largest international business after Europe, the volume of shares traded on the Toronto Stock Exchange increased to 55.6 billion shares in 2003 (from 46.4 billion in 2002), with ITG Canada increasing its market share to 2.6% of value traded on the TSX from 2.2% in 2002.

The year ended December 31, 2003 includes the benefit of a full year of operating results for Hoenig following its September 3, 2002 acquisition. In 2003 Hoenig contributed an additional $24.3 million and $4.6 million of revenues and income before income taxes, respectively.

The impact of the 2003 non-recurring items was a $2.3 million decrease in pretax income and a $0.3 million increase in after-tax net income. Due to rounding, there was no impact on reported earnings per share for the year.

For comparative purposes, our 2002 results also included a non-recurring item. In December 2002, we recorded a pre-tax restructuring charge of $5.9 million, which net of the related tax benefit, approximated $0.08 per diluted share for the year. The 2002 restructuring charge consisted of severance and related costs for 72 employees.

While our management's long-term expectations are optimistic, we may face risks or uncertainties that may affect our results of operations. The following conditions, among others, should be considered in evaluating our business and growth outlook.

The demand for our securities brokerage and related services is directly affected by factors such as economic and political conditions that may lead to decreased trading activity and prices in the securities markets generally. The future economic environment may be subject to periodic economic downturns, such as recessions, as well as geopolitical unrest, war and acts of terrorism in regions where we do business or otherwise, which could also result in reduced trading volumes and prices, which could materially harm our business, financial condition and operating results. Over the last year, the institutional equities market in the U.S. have also experienced continued pricing pressure on commission revenues. Our business is materially affected by conditions in both domestic and foreign financial markets. We anticipate a continuation of the weak pricing environment in the immediate future.

Declines in the volume of securities trading and in market liquidity generally result in lower revenues from our POSIT, Client Site Trading Products and Electronic Trading Desk products. In addition, our trading commissions outside the U.S. and Canada are based on the value of transactions (rather than volume based), which would be adversely affected by price declines. Our profitability would be adversely affected by a decline in trading revenues because a significant portion of our costs are fixed. For these reasons, decreases in trading volume or securities prices could have a material adverse effect on our operating results.

The securities markets and the brokerage industry in which we operate are subject to extensive regulation in the United States and other jurisdictions around the world. We face the risk of significant intervention by regulatory authorities in all jurisdictions in which we conduct business. In our case, the impact of regulation extends beyond "traditional" areas of securities regulation, such as disclosure and prohibitions on fraud and manipulation by market participants, to the regulation of the structure of markets.

The securities industry has been subject to several fundamental regulatory changes. In the future, the industry may become subject to new regulations or changes in the interpretation or enforcement of existing regulations, which may adversely affect our business. The markets for equity securities have been subject to the most significant regulatory changes. We cannot predict the extent to which any future regulatory changes can affect our business.

On February 26, 2004, the SEC published proposed "Regulation NMS" for public comment. If adopted Regulation NMS would incorporate four substantive rules related to the regulatory structure of the U.S. equity markets. Subject to expressly delineated exceptions, Proposed Rule 611 of Regulation NMS would require national securities exchanges, national securities associations and order execution facilities (which would include, among other persons, broker-dealers such as ITG Inc. that execute orders internally by crossing orders as agent) to establish, maintain, and enforce policies and procedures reasonably designed to prevent the execution of "trade-throughs." For purposes of the proposed rule, a trade-through means the purchase (or sale) of a security listed on the NYSE, American Stock Exchange ("Amex") or Nasdaq at a price that is higher (lower) that the best offer (best bid) disseminated through the market at the time the transaction was executed. Proposed Rule 610 would impose new standards governing access to quotations and the execution of orders for equity securities by requiring market centers and market participants that make their quotes publicly available through a national securities exchange or national securities association to permit all market participants access to their limit order books on a non-discriminatory basis. The proposal also would limit the fees that market participants could charge for access to their quotations to a de minimis amount, and require SROs to reduce the incidence of so-called "locked" and "crossed" markets. Proposed Rule 612 generally would prohibit market participants from accepting, ranking or displaying orders, quotes or indications of interest in increments finer than one penny. The proposed rule would not prohibit systems, such as ITG Inc.'s POSIT system, that match unpriced orders at the midpoint of the national best bid and offer from executing such orders in share prices of less than one cent. Finally, Regulation NMS would amend various national market system joint industry quotation and trade reporting plans to modify the formulas for allocating net income among the exchanges and national securities associations that are the participants of such plans. ITG cannot predict whether or when any or all of Proposed Regulation NMS, either as currently proposed or as may be later modified by the SEC, ultimately will be adopted by the SEC. As a result, we cannot predict the extent to which any future regulatory changes associated with Regulation NMS would affect our business.

Before Regulation ATS went into effect on April 21, 1999, we operated POSIT pursuant to a "no-action" letter from the SEC staff which stated that it would not commence an enforcement action if POSIT were operated without registering as an exchange. We are currently operating POSIT and TriAct as part of our broker-dealer operations in accordance with Regulation ATS. Accordingly, neither POSIT nor TriAct is registered with the SEC as an exchange. There can be no assurance that the SEC will not in the future seek to impose more stringent regulatory requirements on the operation of alternative trading systems such as POSIT and TriAct. There can be no assurance that Congress will not enact additional legislation applicable to alternative trading systems. Similarly, the non-U.S. POSIT

systems are subject to various regulations in the jurisdictions in which they operate, changes to which can have a negative impact on each POSIT system's ability to operate.

Each of our broker-dealer subsidiaries is subject to regulatory capital requirements promulgated by the regulatory and exchange authorities of the countries in which they operate. The failure by any of these subsidiaries to maintain its required regulatory capital may lead to suspension or revocation of its broker-dealer registration and its suspension or expulsion by U.S. or international regulatory bodies, and ultimately could require its liquidation. We do not currently maintain any credit facilities in the event of a regulatory capital shortfall.

In the U.S., the provision of research to investment managers in consideration of commissions is conducted in reliance upon the safe harbor provided under Section 28(e) of the Securities Exchange Act of 1934. The safe harbor protections of Section 28(e) apply equally to the provision of independent third-party research, as well as proprietary research.

The SEC from time to time has been urged by competitors of the Company and others to seek Congressional reconsideration of Section 28(e) or alter its scope, including modifying the nature of Section 28(e) from a safe harbor to a mandatory regime for the use of soft dollars applicable to all investment advisors (including those not registered with the SEC). From time to time, other regulatory or governmental entities, as well as industry groups, have issued statements, reports and best practices regarding soft dollars. Any regulatory changes or industry best practices that narrow the definition of research provided in Section 28(e) or limit the scope, or modify the nature, of the Section 28(e) safe harbor, or impose onerous record-keeping, reporting or other obligations regarding soft dollar and directed brokerage arrangements could have a material adverse effect on the Hoenig Division's operations.

The financial services industry generally, and the securities brokerage business in which we engage in particular, is extremely competitive, and we expect it to remain so. The brokerage and related services offered by us compete with services provided by leading brokerage firms and transaction processing firms and with providers of electronic trading and trade order management systems and financial information services. POSIT also competes with various national and regional securities exchanges and execution facilities, the Nasdaq National Market, ATSs and ECNs for trade execution services. Many of our competitors have substantially greater financial, technical, marketing and other resources which, among other things, enable them to compete with the services we provide on the basis of price, and a willingness to commit their firms' capital to service a client's trading needs on a principal, rather than on an agency, basis. Many of them offer a wider range of services, have broader name recognition and have larger customer bases than we do. Outside the United States, in addition to our U.S. competitors with international capabilities, we compete with non-U.S. financial service companies that may also have long-standing, well-established relations with their clients, some of which also hold dominant positions in their trading markets. We compete on the basis of a number of factors, including access to liquidity, transaction execution, our products and services, innovation, reputation and price.

Our business relies heavily on the computer and communications systems supporting our operations. Peak trading times and times of unusual market volatility could cause our systems to operate slowly or even fail for periods of time as could general power or telecommunications failures or natural disasters, despite the contingency plans we have in place. Moreover, we have varying levels

of contingency plan coverage among our non-U.S. subsidiaries. The presence of computer viruses can also cause failure of our systems. As our business expands, we will need to expand our systems to accommodate an increasing volume of transactions. If any of our systems do not operate properly or are disabled, we could incur financial loss, liability to clients, regulatory intervention or reputational damage. System failure or degradation could lead our customers to file formal complaints with industry regulatory organizations, initiate regulatory inquiries or proceedings, file lawsuits against us, trade less frequently through us or cease doing business with us.

Due to the high demand for technology-based services in the securities industry, we are subject to rapid technological change and evolving industry standards. Also, customer demands become greater and more sophisticated as the dissemination of information to customers increases. If we are unable to anticipate and respond to the demand for new services, products and technologies in a timely and cost-effective manner and to adapt to the technological advancements and changing standards, we will be less able to compete effectively, which could have a material adverse effect on our business.

We are exposed to credit risk from third parties that owe us money, securities, or other obligations, including our customers and trading counterparties. These parties may default on their obligations to us due to bankruptcy, lack of liquidity, operational failure or other reasons. Substantially all of the clearing and depository operations for our broker-dealer subsidiaries are performed pursuant to clearing agreements with their clearing brokers, who review the credit risk of trading counterparties, as deemed necessary. Volatile securities markets, credit markets and regulatory changes increase our exposure to credit risk, which could adversely affect our financial condition and operating results.

We have a perpetual license from the POSIT joint venture, which is a joint venture we own with Barra. The license grants ITG Inc. the exclusive right to use certain proprietary software necessary to the continued operation of POSIT in the U.S. and a non-exclusive license to use proprietary software that operates in conjunction with POSIT. The license agreement permits Barra on behalf of the joint venture to terminate the agreement upon certain events of bankruptcy or insolvency or upon an uncured breach by ITG Inc. of certain covenants the performance of which are all within our control. Although we do not believe that we will experience difficulty in complying with our obligations under the license agreement, any termination of the license agreement resulting from an uncured default would have a material adverse effect on us. The POSIT joint venture also licenses the right to use the POSIT technology for crossing Australian, European and Asian equity securities to ITG Australia Limited, ITG Europe and ITG Hong Kong. These licenses contain substantially the same default and termination provisions as the U.S. license.

In connection with our research and product development activities, as well as capital expenditures to improve other aspects of our business, we incur substantial expenses that do not vary directly, at least in the short term, with fluctuations in securities transaction volumes and revenues. In the event of a material reduction in revenues, we may not be able to reduce such expenses quickly and, as a result, we could experience reduced profitability or losses. Conversely, sudden surges in transaction volumes can result in increased profit and profit margin. To ensure that we have the capacity to process projected increases in transaction volumes, we have historically made substantial capital and operating expenditures in advance of such projected increases, including during periods of low transaction volumes. In the event that such growth in transaction volumes does not occur or we are not able to

bring a research or product idea to fruition (or do not accurately forecast the demand for any such product), the expenses related to such investments could cause reduced profitability or losses.

Changes in our customer base (which includes institutional investors, portfolio managers, hedge funds and broker-dealers) can materially affect our profitability and net income. A substantial portion of our revenue is derived from our 10 largest customers. The loss of any significant customer could have a material adverse effect on our results of operations. In addition, the loss of significant POSIT customers or a significant reduction in liquidity provided by a customer could result in lower share volumes of securities submitted to POSIT systems around the world, which may adversely affect the liquidity of the systems, reducing their attractiveness to our customers and adversely affect our trading volumes, operating results and financial condition.

The chart below sets forth our dependence on our three largest clients individually, as well as on our ten largest clients in the aggregate, expressed as a percentage of total revenues:

	% of Total Consolidated Revenue
	2003		2002		2001
Largest customer	5.4	%	4.4	%	4.8	%
Second largest customer	4.0		3.8		4.6
Third largest customer	3.1		3.4		3.9
Ten largest customers	28.2		26.8		29.6

Employee misconduct could subject us to financial losses or regulatory sanctions and seriously harm our reputation. It is not always possible to deter employee misconduct, and the precautions we take to prevent and detect this activity may not be effective in all cases. Misconduct by our employees could include hiding unauthorized activities from us, improper or unauthorized activities on behalf of customers or improper use of confidential information.

Similarly, employee errors in recording or executing transactions for customers can cause us to enter into transactions that customers may disavow and refuse to settle. These transactions expose us to risk of loss, which can be material, until we detect the errors in question and unwind or reverse the transactions. As with any unsettled transaction, adverse movements in the prices of the securities involved in these transactions before we unwind or reverse them can increase this risk.

We depend on a number of third parties to supply elements of our trading systems, computers, communication infrastructure and other equipment, and related support and maintenance. We cannot be certain that any of these providers will be able to continue to provide these services in an efficient and cost-effective manner or that they will be able to meet our expanding needs. If we are unable to make alternative arrangements for the supply of these services in the event of a disruption in the services, our business, financial condition and operating results could be materially harmed.

We rely upon patents, copyrights, trademarks and trade secrets to establish and protect our rights in our proprietary technology, methods and products. However, a third party may still try to challenge, invalidate or circumvent the mechanisms we select to protect our rights. In addition, the laws of some foreign countries may not protect our proprietary rights to the same extent as the laws of the U.S.

In the past several years, there has been a proliferation of so-called "business method patents" applicable to the computer and financial services industries. Under current law, U.S. patent applications remain secret for 18 months and may, depending upon where else such applications are filed, remain secret until issuance of a patent. Thus it is not economically practicable to determine in advance whether our products or services may infringe the present or future patent rights of others. There can be no assurance that we will be able to protect our technology from disclosure or that others will not develop technologies that are similar or superior to our technology. It is likely that from time to time we may also face claims that use of technology material to our business operations infringes on rights of third parties or we may be called upon to defend a joint venture partner, customer or licensee against such third party claims, which could consume valuable time, result in costly litigation or cause delays, all of which could have a material adverse effect on our business.

The table below sets forth certain items in the consolidated statements of income expressed as a percentage of revenues for the periods indicated:

Basic earnings per share for 2003 and 2002 were $0.89 and $1.52, respectively. Diluted earnings per share decreased 41%, from $1.51 to $0.89. Our 2003 and 2002 results included non-recurring items discussed above in "Executive Overview".

The following table sets forth the components of revenues, by segment, included in the statement of income with percent change information for the periods indicated (dollars in thousands):

Consolidated revenues decreased 14% to $334.0 million despite the 45% increase in revenues achieved by our international operations.

Revenues in our U.S. operations decreased 21% to $273.8 million during 2003 reflecting lower portfolio turnover and the highly competitive environment which continued throughout the year. Our U.S. operations benefited from the full year of Hoenig ownership (following its acquisition on September 3, 2002). In 2003 Hoenig contributed an additional $20.4 million of revenues to our U.S. operations.

Key volume and revenue performance indicators for the last two years, as well as percent change information, for our U.S. operations are as follows:

U.S. Operations, excluding Hoenig(a)	2003			Change	% Change
Total trading volume (in billions of shares)		18.6		24.1		(5.5	)	(23	)
Trading volume per day (in millions of shares)		74.0		95.7		(21.7	)	(23	)
Product revenues per trading day ($ million)	$	0.96	$	1.32	($	0.36	)	(27	)
Average revenue per share ($)	$	0.0129	$	0.0138	($	0.0009	)	(7	)
U.S. market trading days		252		252		—		—

There were 252 U.S. trading days in both 2003 and 2002. Product Revenues per trading day from our U.S. operations decreased 27% driven by a volume decrease of 23% coupled with a decline in average revenue per share. Specifically, trading volume fell to 18.6 billion shares from 24.1 in 2002, while our average revenue capture decreased almost 7% to $0.0129 per share in 2003.

In 2003, product revenues from our international operations grew $16.0 million or 46%, which included a $4.6 million benefit from exchange rate fluctuations as a result of a weakened U.S. Dollar relative to the currencies in our international markets. From an operational perspective, we grew product revenues $11.4 million. This increase included the full year benefit of Hoenig ownership which added $3.8 million. Our European product revenue grew $6.9 million, or 38%, to 25.2 million. Our Canadian product revenues increased by $4.3 million, or 44% to $14.1 million, reflecting increased installations of our client-site trading products and analytical products such as ITG ACE and TCA. In Australia, we reported product revenues of $6.2 million, an increase of 22% from 2002. In Hong Kong, we reported product revenues of $5.3 million compared with $1.7 million in 2002. While our Hong Kong operations began generating revenues in June 2002, $3.2 million of the growth was the result of the full year benefit of Hoenig.

Consolidated POSIT revenues decreased $28.3 million, or 18%, principally reflecting lower U.S. share volume, as indicated in the table below. This was partially offset by a 30% increase in European POSIT revenues, resulting from growth in the contract value of shares crossed, since commissions are calculated on the basis of the underlying contract value of transactions rather than on a per share basis.

Electronic Trading Desk revenues increased $7.7 million, or 7% in 2003. Our U.S. Electronic Trading Desk revenues decreased $4.2 million or 5%, despite Hoenig's U.S. business contributing an additional $18.2 million of U.S. Electronic Trading Desk revenues. In our International Operations, Electronic Trading Desk revenues increased $11.8 million with our Canadian, European and Australian trading desk businesses growing by $4.2 million, $2.8 million and $1.1 million, respectively. Our Asian trading desk business contributed an additional $3.7 million of revenue of which $3.2 million was added by Hoenig. Electronic Trading Desk revenues per trading day increased by 7%, to $474,000 in 2003.

In marketing our program trading services, we package our Electronic Trading Desk services with POSIT. Our clients receive blended pricing for executions as a way to provide a single price for an entire portfolio of equity transactions regardless of the execution venue. In the U.S., our combined POSIT and Electronic Trading Desk rate per share declined $0.0016, or 9% to $0.0168 in 2003 reflecting competitive pricing in the program trading business.

Client Site Trading Product revenues, which are only generated by our U.S. Operations, decreased 30%. Share volumes decreased 28% while our rates per share decreased 3%. More than 75% of the revenue decline resulted from a reduction in business with several high volume, low commission clients. During the second half of 2003, we began replacing our QuantEX and ITG Platform products with our next generation product offerings, Triton and Radical.

Other revenues increased $0.9 million, or 9%, to $10.4 million in 2003 due to higher (i) subscription revenues for routing and other services in the U.S. and direct access connectivity in Canada from KTG and (ii) income/loss from positions taken by ITG Canada as customer facilitations (a customary practice in the Canadian marketplace) and income from same day Canadian interlisted arbitrage trading. These increases were partially offset by a decline in our global investment income due to lower interest rates.

The following table sets forth the components of expenses and income taxes, by segment, included in the statement of income with percent change information for the periods indicated (dollars in thousands):

During 2003, foreign exchange rate fluctuations contributed approximately $6 million to the overall increase in expenses for our international operations.

Compensation and employee benefits: Our compensation expense increase of $3.7 million was mainly driven by (i) the full year impact of our acquisition of Hoenig, (ii) the expensing of stock based compensation and (iii) the impact of exchange rate fluctuations, specifically the weaker U.S. Dollar, increasing the relative costs of compensation in our International operations. These increases were offset by savings achieved in 2003 following our December 2002 restructuring.

U.S. compensation expense decreased $0.6 million despite the inclusion of (i) Hoenig, which added an incremental $8.4 million to U.S. compensation costs in 2003, (ii) the expensing of performance based stock options of $1.2 million in 2003 and (iii) severance costs due to additional headcount reductions in 2003. These additional costs were more than offset by the savings achieved in 2003 from our December 2002 restructuring (approximately $8.4 million), as well as declines in other benefits such

as performance based bonuses in 2003. Weighted average U.S. headcount (excluding Hoenig, for comparability) in 2003 was 395 compared to 450 in 2002.

Total international compensation expense increased $4.3 million primarily from (i) the Hoenig acquisition, which accounted for $1.5 million of the increase, (ii) exchange rate fluctuation ($2.6 million), (iii) additional severance for international staffing reductions in 2003, and (iv) increases in compensation in Canada and Europe. These additional costs were partially offset by the headcount reduction as part of the December 2002 restructuring.

Transaction processing: Consolidated transaction processing expenses decreased $4.1 million in 2003.

U.S. transaction processing costs declined by $10.2 million in 2003 driven primarily by rate decreases from our clearance and settlement, and execution providers, as well as the overall decline in our share volume. These lower rates included ECN costs, which declined $3.2 million reflecting a 32% decrease in our ECN rates in 2003. These savings were offset by the inclusion of additional Hoenig transaction processing costs of $3.5 million.

International transaction processing costs increased $6.0 million in 2003 primarily from (i) the increase in share volume and contract value of transactions in 2003, (ii) exchange rate fluctuation ($1.3 million) and (iii) the inclusion of Hoenig ($1.3 million).

Software royalties: Software royalties principally relate to POSIT royalties, which are contractually fixed as a percentage of POSIT revenues. Accordingly, declines in our consolidated POSIT revenues resulted in declines in software royalty expense.

Occupancy and equipment: Consolidated occupancy and equipment costs, which are primarily comprised of fixed costs, increased $3.1 million in 2003 reflecting (i) the inclusion of Hoenig ($1.1 million), (ii) exchange rate impact of $0.6 million, (iii) lease related expenses, including escalation and taxes, and (iv) management expenses for business continuity services.

Telecommunications and data processing services: Consolidated telecommunications and data processing services increased $0.9 million, or 5% largely due to the inclusion of Hoenig costs ($0.8 million).

Restructuring charges: In order to align our infrastructure with expected levels of trading volume, we terminated 72 employees in December 2002, including 54 personnel employed in our U.S. Operations and 18 personnel employed in our International Operations. As a result of this decision, we recorded a $5.9 million pretax charge consisting of severance and related expenses for the 72 employees. There were no such charges in 2003.

Other general and administrative: Consolidated general and administrative costs increased $9.0 million in 2003 primarily due to:

These cost increases were partially offset by reversal of accrued interest ($0.5 million) related to the resolution of an Internal Revenue Service examination of research and development tax credits taken on our tax returns prior to 1996.

Our 39.8% effective tax rate includes the reversal of a tax reserve of $1.9 million related to an Internal Revenue Service examination of research and development tax credits taken on our tax returns prior to 1996. Excluding the impact of this item, our effective tax rate would have been 42.5%, compared with 42.0% in 2002.

Basic earnings per share for 2002 and 2001 were $1.52 and $1.65, respectively. Diluted earnings per share decreased $0.11, or 7%, from $1.62 to $1.51. Earnings per share have been retroactively restated to reflect a three-for-two stock split in December 2001. In 2001, our results included the effect of a gain, which approximated $0.04 per diluted share, relating to the sale of 100,000 shares of stock that ITG Europe held in the LSE. In December 2002, we recorded a restructuring charge, which approximated $0.08 per diluted share for the year ended December 31, 2002, consisting of severance for 72 employees and related costs.

Consolidated revenues increased $10.2 million, or 3%, from $377.4 million to $387.6 million. Revenues from U.S. Operations decreased $5.0 million, or 1%, from $351.0 million to $346.0 million. Revenues from International Operations increased $15.2 million, or 58%, from $26.4 million to $41.6 million.

There were 252 U.S. trading days in 2002 versus 248 U.S. trading days in 2001, reflecting the four-day closure of the U.S. financial markets from September 11 through September 14, 2001. Product Revenues per trading day from our U.S. Operations were $1.4 million for both 2002 and 2001. Our total trading volume in the U.S. reached 24.1 billion shares (averaging 95.7 million per trading day) in 2002 as compared to 22.5 billion shares (averaging 90.8 million per trading day) in 2001. Excluding Hoenig, which was included in our results for four months, U.S. Product Revenues per average number of U.S. employees decreased $74,000, or 8%, from $874,000 to $800,000. In 2002, U.S. Product Revenues included $11.4 million relating to our Hoenig business, which also contributed 46 employees to the total U.S. headcount increase.

In 2002, International Product Revenues included $18.4 million from our European business versus $11.9 million for the year ended December 31, 2001 primarily resulting from our May 2001 purchase of the remaining 50% ownership interest in ITG Europe that we did not already own. Product Revenues from our Canadian operations increased by $4.2 million, or 75%, from $5.6 million to $9.8 million showing continued growth despite weak market conditions. In Australia, we reported Product Revenues of $5.1 million in 2002 compared with $4.8 million in 2001. In Hong Kong, we reported Product Revenues of $1.7 million in 2002 primarily as a result of our September 2002 Hoenig acquisition. Our

Hong Kong operations were in the very early stages of development in 2001 and began generating revenues in 2002.

Consolidated POSIT revenues decreased $31.0 million, or 17%, as a result of lower U.S. share volume and a business mix where ITG customers directed more of their trades through our Client Site Trading Products. This was partially offset by increased revenues from our European POSIT business. The number of shares crossed on the U.S. POSIT system decreased approximately 1.5 billion, or 16%, from 9.2 billion in 2001 to 7.7 billion in 2002. In Europe, where our POSIT share volumes increased 85% in 2002 compared to 2001, commissions are calculated on the basis of the underlying contract value of transactions rather than on a per share basis. ITG Europe, which we began consolidating in May 2001, contributed $13.9 million to consolidated POSIT revenues in 2002 as compared to $8.2 million a year earlier. Consolidated POSIT revenues per trading day decreased by $135,000, or 18%, from $750,000 in 2001 to $615,000 in 2002. The average number of shares crossed on the U.S. POSIT system per trading day decreased 6.8 million, or 18%, from 37.3 million in 2001 to 30.5 million in 2002.

In 2002, Electronic Trading Desk revenues increased $22.0 million, or 24%, as compared to the 2001 period. Our U.S. Electronic Trading Desk revenues increased $14.6 million, or 19%, of which Hoenig's U.S. business contributed $11.4 million following its acquisition on September 3, 2002. Our International Operations contributed $7.4 million of the total increase. Our Canadian Electronic Trading Desk business grew by $4.2 million and both our Australian and European Trading Desk business grew by $0.8 million. In addition, our Asian Trading Desk business contributed $1.6 million. Electronic Trading Desk revenues per trading day increased by $81,000, or 22%, from $362,000 in 2001 to $443,000 in 2002 primarily due to the acquisition of Hoenig.

We sell various Electronic Trading Desk services as a package for program trading business. In this way, our clients receive blended pricing for executions through the Electronic Trading Desk and POSIT driven by our clients' desire to receive a single price for an entire portfolio of equity transactions regardless of the execution venue.

Client Site Trading Products revenues increased $17.3 million, or 18%. Share volumes in the U.S. increased 29%, partially offset by a 9% decline in our rates per share. Client Site Trading Products revenues per trading day increased by $63,000, or 17%, from $379,000 in 2001 to $442,000 in 2002.

Other revenues increased $1.9 million, or 25%, from $7.6 million to $9.5 million. In 2002, subscription revenues from our Canadian direct access provider, KTG, were $3.1 million (as compared to $0.7 million in the 2001 period following the September 28, 2001 acquisition of the KastenNet business of Kasten Chase). Market gains/losses and financing costs resulting from temporary positions in securities assumed in the normal course of our agency trading business increased $0.9 million, which was offset by a decline in our global investment income of $2.6 million due to interest rate declines in 2002. In 2001, we recognized a $2.4 million loss from a write-down of our venture capital investment in Angel Investors II, L.P., which was partially offset by a $1.2 million gain on the sale of our investment in Advanced Investment Technology, Inc. an asset management company.

The table below sets forth certain items in the statements of income and their variance over the periods indicated (dollars in thousands):

Compensation and employee benefits: Total compensation expense increased $10.7 million primarily due to (i) our acquisition of Hoenig (accounting for $5.9 million of the increase) combined with (ii) the impact of consolidating the results of ITG Europe for the full year 2002 (versus the eight months consolidated in 2001) and (iii) the launch of ITG Hong Kong in the second quarter 2002. This combined impact of ITG Europe and ITG Hong Kong was $5.0 million.

U.S. compensation increased $3.3 million primarily from Hoenig's U.S. compensation costs of $5.0 million since September 3, 2002 reflecting additional headcount of 46 at December 31, 2002. Total U.S. headcount at December 31, 2002 was 451 compared to 431 at December 31, 2001 and reflects our headcount reduction in December 2002. The increase in compensation from the Hoenig acquisition was partially offset by decreases in variable bonuses and profit sharing, which are tied to our financial performance.

Total international compensation increased $7.4 million primarily from the full year impact of ITG Europe from its date of consolidation in May 2001 and ITG Hong Kong operations (totaling $5.0 million) and the acquisition of Hoenig, which contributed $0.9 million. The international headcount at December 31, 2002 was 184, which included 16 from Hoenig's non-U.S. operations.

Transaction processing: Consolidated transaction processing expenses increased slightly by $0.9 million from $49.5 million in 2001 to $50.4 million in 2002.

U.S. transaction processing expenses declined by $3.0 million in 2002. We realized total savings of $7.0 million primarily from declines of 44% in ECN costs per share and the full year impact of clearing rate reductions obtained in 2001, offset by a 43% increase in share volumes executed through ECNs. U.S. transaction processing costs increased $4.0 million as a result of the inclusion of Hoenig since September 3, 2002 and an increase in charges for floor brokerage executions.

International transaction processing costs increased $3.9 million in 2002 primarily from expenses associated with Hoenig's non-U.S. operations and the full year consolidation of ITG Europe (aggregating $3.0 million). In addition, ITG Canada's transaction processing costs increased $1.4 million on revenue growth of 75% over 2001.

Software royalties: Software royalties are contractually fixed as a percentage of POSIT revenues. Accordingly, declines in our POSIT revenues resulted in declines in software royalty expense.

Occupancy and equipment: Consolidated occupancy and equipment costs increased $7.4 million from $20.6 million in 2001 to $28.0 million in 2002.

U.S. costs increased $4.5 million primarily from a $2.3 million loss of sublease income on certain facilities in New York and California (as short-term sub-leases expired during the year ended December 31, 2002), costs for occupying contingency space and a $1.8 million increase in depreciation and associated maintenance contracts on fixed asset purchases and related infrastructure upgrades.

International costs increased $2.9 million primarily from the consolidation of ITG Europe since May 2001 and costs associated with our start-up operations in Hong Kong (accounting for $2.2 million).

Telecommunications and data processing services: Consolidated telecommunications and data processing services increased $2.4 million, or 16%, from $15.1 million in 2001 to $17.5 million in 2002.

In the U.S., costs remained relatively unchanged in 2002 from 2001. Cost management controls resulted in reductions in telecommunications rates and usage charges, which were offset by the $0.6 million impact of the purchase of Hoenig.

International costs increased $2.2 million reflecting the consolidation of ITG Europe for the entire current period, as well as the inclusion of expenses incurred by KTG in Canada and our start-up operation in Hong Kong.

Net gain on long-term investments: In 2001, we recognized a one time gain of $1.9 million through our ITG Europe joint venture relating to the sale of 100,000 shares of stock that ITG Europe held in the LSE, which were received at the time of the LSE demutualization in the year 2000. The reported gain on long-term investments of $0.3 million was net of our $1.6 million share of ITG Europe's operating loss prior to consolidation in May 2001. There were no such amounts reported in 2002.

Restructuring charges: In order to align our infrastructure with expected levels of trading volume, we took actions to reduce our cost structure through the decision to terminate 72 employees in December 2002, including 54 personnel employed in our U.S. Operations and 18 personnel employed in our International Operations. As a result of this decision, we recorded a $5.9 million pretax charge consisting of severance for the 72 employees. There were no such charges in 2001.

Other general and administrative: Consolidated general and administrative costs decreased $4.4 million in 2002 primarily from the following U.S. costs: (i) a $2.2 million decrease in bad debt provisions resulting from collection efforts and the reversal of the receivable provision related to the events of September 11, 2001, as the related accounts have been fully collected, (ii) a $1.4 million decrease in amortization of capitalized software costs due to timing of new product launches, and (iii) $1.1 million in charitable contributions made in September 2001 to the New York Times 9/11 Neediest Fund. These cost benefits were partially offset by increases in certain corporate insurance premiums and the consolidation of Hoenig following its acquisition in September 2002.

The effective tax rate remained at 42.0% in 2002 as compared to 2001 reflecting an increase in the utilization of certain U.S. Federal and State credits, offset by an increase in non-deductible foreign losses. Our effective tax rate can vary from period to period depending on, among other factors, the geographic and business mix of our earnings.

Our consolidated financial statements and accompanying notes are prepared in accordance with accounting principles generally accepted in the United States of America. In many instances, the application of such principles requires management to make estimates or to apply subjective principles to particular facts and circumstances. A change in the estimates or a variance in the application, or interpretation of accounting principles generally accepted in the United States of America could yield a materially different accounting result. Below is a summary of the Company's critical accounting policies and estimates where we believe that the estimations, judgments or interpretations that we made, if different, would have yielded the most significant differences in our consolidated financial statements. In addition, for a summary of all of our significant accounting policies, see Note 2, Summary of Significant Accounting Policies, in the Notes to the Consolidated Financial Statements.

Securities owned, at fair value, securities sold, not yet purchased, at fair value, and investments in limited partnerships in the consolidated statements of financial condition are carried at fair value or amounts that approximate fair value, with the related unrealized gains or losses recognized in our results of operations. The fair value of these instruments is the amount at which these instruments could be exchanged in a current transaction between willing parties, other than in a forced liquidation. Where available, we use the prices from independent sources such as listed market prices, or broker or dealer quotations. For investments in illiquid and privately held securities that do not have readily determinable fair values, we use estimated fair values as determined by management. At December 31, 2003, we held 758,000 shares of common stock in a privately held company with a fair value of zero as determined by management since a market price is not observable or measurable. In March 2004, this company filed a registration statement on Form S-1 with the SEC in contemplation of an initial public offering of their corporate stock, which, if consummated, may have a material impact on our results of operations.

Effective January 1, 2003, we adopted the fair value recognition provisions of SFAS No. 123, as amended by SFAS No. 148, Accounting for Stock-Based Compensation—Transition and Disclosure, prospectively to all awards granted, modified, or settled after January 1, 2003. Under this method of adoption, compensation expense will be recognized based on the fair value of stock options and/or restricted stock units granted for fiscal 2003 and future years over the related service period. In 2003, the Company granted three-year performance based stock options based on a cumulative three-year performance metric and recorded stock based compensation expense for these options. Under the fair value approach, management employs considerable judgment in estimating, on the date of grant, the options expected life and expected volatility. Additionally, management estimates the number of options that are expected to vest based on the expected outcomes of the performance related conditions.

Determining the fair value of certain assets and liabilities acquired in a business combination is judgmental in nature and often involves the use of significant estimates and assumptions. For initial valuations, we retain valuation experts to provide us with independent fair value determinations of goodwill and other intangibles. In addition, we perform valuations based on internally developed models. Specifically, a number of different methods are used in estimating the fair value of acquired intangibles as well as testing goodwill and other intangibles for impairment. Such methods include the income approach and the market approach. Significant estimates and assumptions applied in these approaches include, but are not limited to, projection of future cash flows, the applicable discount rate,

perpetual growth rates, and adjustments made to assess the characteristics and relative performance of similar assets.

In accordance with Statement of Financial Accounting Standards ("SFAS") No. 142, Goodwill and Other Intangible Assets, which became effective January 1, 2002, we discontinued the amortization of goodwill. SFAS No. 142 requires goodwill to be assessed no less than annually for impairment. As of the most recent impairment test, we determined that the carrying value of goodwill for each reporting unit was not impaired. Other intangibles with definite lives will continue to be amortized over their useful lives and are assessed for impairment on an annual basis (or sooner when events or circumstances indicate a possible impairment) pursuant to the provisions of SFAS No. 142 and SFAS No. 144, Accounting for Long Lived Assets and for Long Lived Assets to be Disposed Of. Amortization expense related to goodwill and other intangibles for the years ended December 31, 2003, 2002, and 2001 was as follows:

	Amortization Expense
	2003		2002		2001
	($ millions)
Goodwill	$	0.0	$	0.0	$	1.1
Other Intangibles		0.6		0.5		0.0

Total Amortization	$	0.6	$	0.5	$	1.1

As is the normal practice in our industry, the values we report for exchange seats, which are included within other assets in our financial statements, are valued at cost or a lesser amount if there is an other-than-temporary impairment in value. During 2003, we wrote down the carrying value of two New York Stock Exchange seats that we obtained as part of the Hoenig acquisition, when the market value of the seats was $2.5 million each. Since the current market environment has led to a reduction in NYSE seat prices, which we believe is other-than-temporary in nature, we have taken a $2 million impairment write-down to reflect the fair value of these seats at $1.5 million each. The fair value was determined by referencing actual NYSE seat sales made during 2003, the last four of which were sold at $1.5 million each. Similarly, our three Stock Exchange Trading Rights in Hong Kong, which are reflected in the financial statements within Other Intangibles, have also been written down to their fair market value resulting in an impairment charge of $524,000 in 2003. The fair value of the Stock Exchange Trading Rights was determined by, amongst other factors, examining the range of indicated prices for sales during 2003, as provided by the Stock Exchange of Hong Kong. Our assessment of the nature and extent of impairment of the exchange seats and exchange trading rights requires considerable judgment by management with respect to evaluating external factors. If actual impairment is greater than the write-downs we estimated, we may be required to record additional expense. The following table indicates our sensitivity to potential future impairment charges from further declines in market value of our NYSE exchange seats and Stock Exchange Trading Rights in Hong Kong:

	Potential Future Impairment
	10%		25%		50%
	($ in millions)
NYSE exchange seats	$	0.3	$	0.8	$	1.5
Stock exchange trading rights	$	0.0	$	0.0	$	0.1

We permit institutional customers to allocate a portion of their gross commissions to pay for research products and other services provided by third parties. The amounts so allocated for those purposes are commonly referred to as soft dollar arrangements. We are accounting for the cost of independent research and directed brokerage arrangements on an accrual basis. Commission revenue is recorded when earned on a trade date basis. Our accounting for commission revenues includes the guidance contained in Emerging Issues Task Force ("EITF") Issue No. 99-19, Reporting Revenues Gross versus Net, and accordingly, payments relating to soft dollars are netted against the commission revenues. Prepaid soft dollar research balances are included in Receivables from Brokers, Dealers and Other and accrued soft dollar research payable balances are classified as Accounts Payable and Accrued Expenses in our consolidated statements of financial condition.

We continuously monitor our customer account balances and maintain an allowance for soft dollar advances which is comprised of a general reserve based on historical collections performance plus a specific reserve for certain known customer issues. If actual bad debts are greater than the reserves calculated based on historical trends and known customer issues, we may be required to record additional bad debt expense, which could have a material adverse impact on our operating results for the periods in which such additional expense would occur. Net soft dollar revenues and related prepaid and accrued soft dollar research balances for the years ended December 31, 2003, 2002, and 2001 were as follows:

	2003			2002			2001
	($ millions)
Net soft dollar commissions	$	53.2		$	33.6		$	28.9
Prepaid soft dollar research, gross		6.8			7.9			—
Allowance for prepaid soft dollar research		(2.0	)		(2.3	)		—

Prepaid soft dollar research, net of allowance		4.8			5.6			—
Accrued soft dollar research payable		18.8			20.9			11.1

SFAS No. 109, Accounting for Income Taxes, establishes financial accounting and reporting standards for the effect of income taxes. The objectives of accounting for income taxes are to recognize the amount of taxes payable or refundable for the current year and deferred tax liabilities and assets for the future tax consequences of events that have been recognized in an entity's financial statements or tax returns. Judgment is required in assessing the future tax consequences of events that have been recognized in our financial statements or tax returns. Fluctuations in the actual outcome of these future tax consequences could materially impact our financial position or results of operations.

Our liquidity and capital resource requirements result from our working capital needs, primarily consisting of compensation and benefits, transaction processing fees and software royalty fees. Historically, cash from operations has met all working capital requirements. We believe that our cash flow from operations and existing cash balances will be sufficient to meet our cash requirements.

In Asia, we maintain working capital facilities with a bank relating to our clearing and settlement activities. These facilities are in the form of overdraft protection totaling approximately $19.6 million and are supported by $3.4 million in restricted cash deposits.

A substantial portion of our assets are liquid, consisting of cash and cash equivalents or assets readily convertible into cash. We generally invest our excess cash in money market funds and other short-term investments that mature within 90 days or less. Additionally, securities owned at fair value

include highly liquid, variable state and municipal obligations, auction rate preferred stock, mutual fund investments, common stock and warrants. At December 31, 2003, cash and cash equivalents and securities owned, at fair value amounted to $263.2 million and net receivables from brokers, dealers and other due within 30 days totaled $207.4 million. In addition, we held $11.9 million of total cash in restricted or segregated bank or clearing broker accounts at December 31, 2003.

We also invest a portion of our excess cash balances in cash enhanced strategies, which we believe should yield higher returns without significant effect on risk. As of December 31, 2003, we had investments in limited partnerships totaling $19.5 million, of which $10.0 million were invested in marketable securities, $0.1 million was invested in a venture capital fund and $9.4 million, related to the Inference Arbitrage Fund, was in money market funds. The Inference Arbitrage Fund was subsequently liquidated in January 2004 with the proceeds reinvested in money market funds. The limited partnerships employ either a hedged convertible strategy or a long/short strategy to capitalize on short-term price movements.

On June 11, 2003, we acquired a 25% interest in Radical Corporation, a provider of an equity front-end software-trading platform, for $956,000 including legal expenses of $206,000 with the right to purchase the remaining 75% interest in Radical Corporation during the first half 2004. The additional purchase price is contingent upon performance as per a defined calculation in the purchase agreement and will not exceed $18.0 million. On February 27, 2004 we exercised our option to purchase the remaining 75% of Radical Corporation, which purchase is scheduled to close at the end of March 2004.

Cash flows provided by operating activities were $62.2 million in 2003 as compared to $70.1 million in 2002. The $7.9 million decrease was primarily attributable to a $31.8 million decrease in net income, partially offset by changes in non-cash items and working capital. These changes include the impact of:

Net cash provided by/(used in) investing activities reflects a reallocation of certain investments from auction rate preferred stock to cash. We are revisiting the regulatory capital treatment of certain auction rate preferred stock. While conducting this analysis, we have moved those funds to cash to ensure the regulatory capital treatment of these assets.

Net cash provided by/(used in) used in financing activities reflects purchases of nearly 3 million shares of our common stock as part of our share repurchase program, which were funded from our available cash resources. As part of our share repurchase program, our Board of Directors authorizes management to use its discretion to purchase an agreed-upon maximum number of shares of common

stock in the open market or in privately negotiated transactions. During 2003, we purchased approximately 3 million shares of our common stock at an average cost of $16.73 per share, totaling $50.1 million. As of December 31, 2003, we repurchased all shares permitted under the most recent share repurchase program authorization. In January 2004, our Board of Directors authorized further repurchases of up to 3 million shares of our common stock.

Net cash provided by/(used in) financing activities also reflects $4.7 million in cash provided by common stock issued in connection with our employee stock purchase plan, employee stock option plan, and other stock based compensation.

Historically, all regulatory capital needs of ITG Inc., AlterNet and ITG Execution Services have been provided by cash from operations. We believe that cash flows from operations will continue to provide ITG Inc., AlterNet and ITG Execution Services with sufficient regulatory capital. At December 31, 2003, ITG Inc., AlterNet and ITG Execution Services had net capital of $107.3 million, $3.6 million and $3.9 million, respectively, of which $107.0 million, $3.5 million and $3.9 million, respectively, was in excess of required net capital.

In addition, our Canadian, Australian, Asian and European operations had regulatory capital in excess of the minimum requirements applicable to each business as of December 31, 2003 of approximately $8.9 million, $3.7 million, $6.7 million, and $27.1 million respectively.

Although we believe that the combination of our existing net regulatory capital and operating cash flows will be sufficient to meet regulatory capital requirements, a shortfall in net regulatory capital would have a material adverse effect on us. We do not currently maintain any credit facilities in the event of a regulatory capital shortfall.

As of December 31, 2003, ITG Inc. held a $4.3 million cash balance on behalf of its Hoenig division in a segregated deposit account with its clearing broker for the benefit of customers under certain directed brokerage arrangements.

In the normal course of business, we are involved in the execution of various customer securities transactions. Securities transactions are subject to the credit risk of counterparties or customer nonperformance. In connection with the settlement of non-U.S. securities transactions, Investment Technology Group, Inc. has provided third party financial institutions with guarantees in amounts up to a maximum of $136.0 million. In the event that a customer of ITG's subsidiaries fails to settle a securities transaction, or if the related ITG subsidiaries were unable to honor trades with a customer, Investment Technology Group, Inc. would be required to perform for the amount of such securities up to the $136.0 million cap. However, transactions are collateralized by the underlying security, thereby reducing the associated risk to changes in the market value of the security through settlement date. Therefore, the settlement of these transactions is not expected to have a material effect upon our financial statements. It is also our policy to review, as necessary, the credit worthiness of each counterparty and customer.

As of December 31, 2003, our contractual obligations and other commercial commitments amounted to $57.1 million in the aggregate and consisted of the following (dollars in thousands):

In the fourth quarter of 1998, we entered into a ⁵⁰/50 joint venture with Société Générale, and founded ITG Europe. On November 18, 1998, ITG Europe launched an agency brokerage operation that included the operation of a European version of the POSIT system. On May 2, 2001, we purchased Société Générale's entire interest in ITG Europe for $18.5 million. The acquisition was recorded under the purchase method of accounting. The purchase price was allocated to assets acquired and liabilities assumed based upon estimated fair market values at the date of acquisition. The $16.7 million excess of the purchase price over the estimated fair value of the net assets acquired was allocated to goodwill.

On September 28, 2001, we acquired the KastenNet business of Kasten Chase Applied Research Limited for $4.7 million. KastenNet is a direct access provider that employs proprietary technology to connect its clients, Canadian broker-dealers, to the Toronto Stock Exchange. We acquired the assets of KastenNet via KTG, a new wholly-owned subsidiary of ITG. The purchase price was allocated to assets acquired and liabilities assumed based upon estimated fair market values at the date of acquisition. A software license we acquired amounting to $4.2 million is being amortized on a straight-line basis over a fifteen-year period.

On September 3, 2002, we completed the acquisition of Hoenig Group Inc., which, through its operating affiliates, provides trade execution, independent research and other services to alternative investment funds and money managers globally. Under the terms of the transaction, Hoenig stockholders received approximately $105.0 million, or $11.58 per share, of which approximately $2.4 million, or $0.23 per share, have been placed into an escrow account. Such escrow requirement relates to the pursuit, on behalf of Hoenig Group Inc. shareholders, of certain insurance and other claims in connection with a $7.2 million pre-tax loss announced by Hoenig Group Inc. on May 9, 2002 as a result of unauthorized trading in foreign securities, by a former employee of Hoenig & Company Limited, in violation of Hoenig's policies and procedures. In connection with this acquisition, we incurred transaction costs consisting primarily of professional fees of approximately $2.8 million, which have been included in the purchase price. The purchase price was allocated to those assets acquired and liabilities assumed based on the estimated fair value of Hoenig's net assets as of September 3, 2002. Approximately $0.5 million was allocated to the "Hoenig" trade name, which is being amortized over three years. The excess of the purchase price over the fair value of the net assets acquired was

$56.8 million and has been allocated to goodwill. The results of operations of Hoenig have been included in our results of operations since September 3, 2002.

The consolidated financial statements include the results of operations of the above businesses from their respective dates of acquisition.

On November 1, 2002, Inference Group LLC, our former asset management subsidiary, was reorganized. In connection with this reorganization, we sold 81% of Inference Group LLC to the Inference Group management team and retained a 19% minority ownership interest. In the fourth quarter of 2003, Inference Group LLC ceased substantially all asset management operations. Accordingly, we took an asset impairment charge of $223,000 representing the full cost basis of our investment.

In June 2002, the Financial Accounting Standards Board ("FASB") issued SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities, which is effective for fiscal years beginning after December 31, 2002. SFAS No. 146 requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred. The adoption of SFAS No. 146 in the first quarter of 2003 did not have a material effect on our results of operations, financial position or cash flows.

In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based Compensation—Transition and Disclosure—an amendment of SFAS No. 123. This Statement provides alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. Until December 31, 2002, we accounted for those plans under the recognition and measurement provisions of Accounting Principles Board Opinion (APB) No. 25, Accounting for Stock Issued to Employees, as permitted by SFAS No. 123, Accounting for Stock-Based Compensation. Accordingly, no stock-based compensation expense was reflected in net income, as all options granted under those plans had an exercise price equal to the market value of the underlying common stock on the date of grant. Effective January 1, 2003, we adopted the fair value recognition provisions of SFAS No. 123, as amended by SFAS No. 148, Accounting for Stock-Based Compensation—Transition and Disclosure, prospectively to all awards granted, modified, or settled after January 1, 2003.

In January 2003, the FASB issued Interpretation No. 46, Consolidation of Variable Interest Entities, which requires the identification and assessment for consolidation of variable interest entities. Variable interest entities are identified by reviewing our equity investments at risk, our ability to make decisions about an entity's activities and the obligation to absorb an entity's losses or right to receive expected residual results. FIN 46 applies immediately to variable interest entities created after January 31, 2003, and to variable interest entities in which an enterprise obtains an interest after that date. For entities that were originated prior to February 1, 2003, FIN 46 applies in the first fiscal year or interim period beginning after June 15, 2003. We have completed our analysis of the impact of Interpretation No. 46 and its adoption did not have a material effect on our results of operations, financial position or cash flows.

In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities. SFAS 149 amends and clarifies accounting for derivative instruments and hedging activities subsequent to the initial issuance of SFAS 133. This statement is generally effective for contracts entered into or modified after June 30, 2003 and did not have a material effect on our results of operations, financial position or cash flows.

In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity. SFAS No. 150 established standards for certain financial instruments which possess characteristics of both a liability and equity, which under previous guidance could be classified as equity or "mezzanine" equity. Generally, it now requires classification of such financial instruments as a liability (or assets in some circumstances). SFAS No. 150 is effective for

financial instruments entered into or modified after May 31, 2003. For financial instruments in existence prior to May 31, 2003, SFAS No. 150 is effective as of September 1, 2003. The adoption of this statement did not have a material effect on our results of operations, financial position or cash flows.

On February 27, 2004 we exercised our option to purchase the remaining 75% of Radical Corporation which we did not already own, which purchase is scheduled to close at the end of March 2004. The additional purchase price, which has not yet been finalized, is contingent upon performance as per a defined calculation in the purchase agreement and will not exceed $18.0 million.

Market risk refers to the potential for adverse changes in the value of a company's financial instruments as a result of changes in market conditions. We are exposed to market risk associated with changes in interest rates, foreign currency exchange rates and equity prices to the extent we own such instruments in our portfolio. We do not engage in speculative or leveraged transactions, nor do we hold or issue financial instruments for trading purposes. We continually evaluate our exposure to market risk and oversee the establishment of policies, procedures and controls to ensure that market risks are identified and analyzed on an ongoing basis.

We have performed sensitivity analyses on different tests of market risk as described in the following sections to estimate the impacts of a hypothetical change in market conditions on the fair value of securities owned and the U.S. dollar value of non-U.S. dollar-based revenues associated with our international operations. Estimated potential losses assume the occurrence of certain adverse market conditions. Such estimates do not consider the potential effect of favorable changes in market factors and also do not represent management's expectations of projected losses in fair value. We do not foresee any significant changes in the strategies used to manage interest rate risk, foreign currency risk or equity price risk in the near future.

Our exposure to interest rate risk relates primarily to interest-sensitive financial instruments in our investment portfolio. Interest-sensitive financial instruments will decline in value if interest rates increase. Our interest-bearing investment portfolio primarily consists of short-term, high-credit quality money market funds, highly liquid variable rate municipal securities auction rate preferred stock and treasury notes. The aggregate fair market value of our portfolio was $191.0 million and $197.5 million as of December 31, 2003 and 2002, respectively. Our interest-bearing investments are not insured and because of the short-term high quality nature of the investments are not likely to fluctuate significantly in market value. For the years ended December 31, 2003 and 2002 we estimated that a hypothetical 100 basis point adverse change in interest rates would have resulted in a $2.0 million and $2.5 million decline in the value of our portfolio, respectively.

We currently operate and continue to expand globally in a variety of ways, including through our operations in Canada, Australia, Europe and Hong Kong, and through the development of specially tailored versions of our services. Additionally, we maintain development facilities in Israel. Our investments and development activities in these countries expose us to currency exchange rate fluctuations primarily between the U.S. Dollar and the British Pound Sterling, Euro, Australian Dollar, Canadian Dollar, Hong Kong Dollar and Israeli New Shekel. When the U.S. dollar strengthens against these currencies, the U.S. dollar value of non-U.S. dollar-based revenue decreases. To the extent that

our international activities recorded in local currencies increase in the future, our exposure to fluctuations in currency exchange rates will correspondingly increase. We have not engaged in derivative financial instruments as a means of hedging this risk. Non-U.S. dollar cash balances held overseas are generally kept at levels necessary to meet current operating and capitalization needs.

Approximately 18%, and 11% of our revenues for the years ended December 31, 2003 and 2002 were denominated in non-U.S. dollar currencies. For the years ended December 31, 2003 and 2002, we estimated that a hypothetical 10% adverse change in foreign exchange rates would have resulted in a further increase in net losses in our international operations of $0.2 million, and $1.1 million, respectively.

Equity price risk results from exposure to changes in the prices of equity securities. At times we do hold positions overnight due to client or Company errors. Equity price risk can arise from liquidating such positions. Accordingly, we maintain policies and procedures regarding the management of our errors and accommodations proprietary trading accounts. It is our policy to attempt to trade out of all positions arising from errors and accommodations immediately while balancing our exposure to market risk. Certain positions may therefore be liquidated over a period of time in an effort to minimize market impact.

We manage equity price risk associated with open positions through the establishment and monitoring of trading policies and through controls and review procedures that ensure communication and timely resolution of trading issues. Our operations and trading departments review all open trades daily. Additionally, our clearing broker notifies us of all known trade discrepancies on the day following the trade date. We have also established approval policies that include review by a Supervisory Principal of any proprietary trading activity.

Our cash management strategy seeks to optimize excess liquid assets by preserving principal, maintaining liquidity to satisfy capital requirements, minimizing risk and maximizing our after tax rate of return. Our policy is to invest in high quality credit issuers, limit the amount of credit exposure to any one issuer and invest in tax efficient strategies. Our first priority is to reduce the risk of principal loss. We seek to preserve our invested funds by limiting default risk, market risk, and re-investment risk. We attempt to mitigate default risk by investing in high quality credit securities that we believe to be low risk and by positioning our portfolio to respond appropriately to reductions in the credit rating of any investment issuer or guarantor that we believe is adverse to our investment strategy.

For working capital purposes, we invest only in money market instruments. Cash balances that are not needed for normal operations are invested in a tax efficient manner in instruments with appropriate maturities and levels of risk to correspond to expected liquidity needs. We currently have investments in municipal bonds, auction rate preferred bonds and, to a lesser extent, common stock. To the extent that we invest in marketable equity securities, we ensure portfolio liquidity by investing in marketable securities with active secondary or resale markets. We do not use derivative financial instruments in our investment portfolio. At December 31, 2003 and 2002, our cash and cash equivalents and securities owned were approximately $263.2 million and $256.6 million, respectively.

Our investments in limited partnership funds require approval of executive management and/or the board of directors. As of December 31, 2003, we had investments in limited partnerships totaling $19.5 million, of which $10.0 million were invested in marketable securities, $0.1 million was invested in a venture capital fund and $9.4 million, related to the Inference Arbitrage Fund, was in money market funds. The Inference Arbitrage Fund was subsequently liquidated in January 2004 with the proceeds reinvested in money market funds. At December 31, 2002, investments in limited partnerships investing in marketable securities and a venture capital fund were approximately $26.1 million.

		Pages
Independent Auditors' Report		45
Consolidated Statements of Financial Condition		46
Consolidated Statements of Income		47
Consolidated Statements of Changes in Stockholders' Equity		48
Consolidated Statements of Cash Flows		49
Notes to Consolidated Financial Statements		50

To the Board of Directors of Investment Technology Group, Inc. and subsidiaries:

We have audited the accompanying consolidated statements of financial condition of Investment Technology Group, Inc. and subsidiaries (the "Company") as of December 31, 2003 and 2002, and the related consolidated statements of income, changes in stockholders' equity, and cash flows for each of the years in the three-year period ended December 31, 2003. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Investment Technology Group, Inc. and subsidiaries as of December 31, 2003 and 2002, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2003, in conformity with accounting principles generally accepted in the United States of America.

As discussed in Note 2 to the consolidated financial statements, during 2003 the Company changed its method of accounting for stock-based compensation.

New York, New York
February 16, 2004, except for Note 20, which is as of February 27, 2004

INVESTMENT TECHNOLOGY GROUP, INC.
Consolidated Statements of Financial Condition
(In thousands, except share amounts)

The accompanying Notes to these Consolidated Financial Statements
are integral parts of these statements.

INVESTMENT TECHNOLOGY GROUP, INC.
Consolidated Statements of Income
(In thousands, except per share amounts)

The accompanying Notes to these Consolidated Financial Statements
are integral parts of these statements.

INVESTMENT TECHNOLOGY GROUP, INC.
Consolidated Statements of Changes in Stockholders' Equity For the
Years Ended December 31, 2003, 2002 and 2001
(In thousands, except share amounts)

The accompanying Notes to these Consolidated Financial Statements
are integral parts of these statements.

INVESTMENT TECHNOLOGY GROUP, INC.
Consolidated Statements of Cash Flows
(In thousands)

The accompanying Notes to these Consolidated Financial Statements
are integral parts of these statements.

Investment Technology Group, Inc. ("ITG" or the "Company") was formed as a Delaware corporation on July 22, 1983. Its principal subsidiaries include: (1) ITG Inc. and AlterNet Securities, Inc. ("AlterNet"), United States ("U.S.") broker-dealers in equity securities, (2)) Hoenig Group Inc. (since the date of its acquisition on September 3, 2002) and its operating affiliates, Hoenig & Company, Inc. and Hoenig (Far East) Limited (collectively, "Hoenig"), agency soft dollar broker-dealers in equity securities in the U.S. and Hong Kong, (collectively "Hoenig") (3) Investment Technology Group Limited ("ITG Europe"), an institutional broker-dealer in Europe, which was 50% owned prior to our May 2, 2001 purchase of the 50% ownership interest in the ITG Europe joint venture we did not already own, (4) ITG Australia Limited ("ITG Australia"), an institutional broker-dealer in Australia, (5) ITG Canada Corp. ("ITG Canada"), an institutional broker-dealer in Canada, (6) KTG Technologies Corp. ("KTG"), a direct access provider in Canada, (7) ITG Hoenig Limited ("ITG Hong Kong"), an institutional broker dealer in Hong Kong, and (8) ITG Software Solutions, Inc., our intangible property and software development and maintenance subsidiary in the U.S.

On September 3, 2003, ITG completed the integration of the soft dollar agency brokerage business of Hoenig & Co., Inc. into ITG Inc (herein referred to as the "Hoenig division"). Hoenig & Co., Inc. changed its name to ITG Execution Services Inc. ("ITG Execution Services") and its sole continuing business is the conduct of floor brokerage activities on the NYSE for its affiliated companies. In December 2003, ITG Hong Kong Ltd. changed its name to ITG Hoenig Limited.

We are a financial technology firm that provides electronic equity analysis and trade execution tools. We have two reportable segments: U.S. Operations and International Operations. The U.S. Operations segment provides equity trading and research services to institutional investors, brokers and alternative investment funds and money managers in the United States of America. The International Operations segment includes our agency brokerage businesses in Europe, Australia, Canada and Hong Kong, as well as a research facility in Israel.

The consolidated financial statements and accompanying notes are prepared in accordance with accounting principles generally accepted in the United States of America. All material intercompany balances and transactions have been eliminated in consolidation. The consolidated financial statements reflect all adjustments, which are in the opinion of management, necessary for the fair statement of results. Certain reclassifications and format changes have been made to prior year amounts to conform to the current year presentation.

During December 2001, outstanding shares of common stock were split three-for-two. All share and per share amounts have been retroactively restated.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and the disclosure of contingent assets, liabilities, revenues and expenses. Actual results could differ from those estimates.

We have defined cash and cash equivalents as highly liquid investments, with original maturities of less than ninety days, which are part of our cash management activities.

Substantially all of our financial instruments are carried at fair value or amounts approximating fair value. Cash and cash equivalents, securities owned and securities sold, not yet purchased, investments in limited partnerships and certain receivables are carried at market value, estimated fair value or contracted amounts which approximate fair value due to the short period to maturity and repricing characteristics.

Revenues primarily consist of commissions from customers' use of our trade execution and analytical services. Because these commissions are paid on a per-transaction basis, revenues fluctuate from period to period depending on (i) the volume of securities traded through our services in the U.S. and Canada, and (ii) the contract value of securities traded in Europe, Australia and Hong Kong. Other revenues include (a) interest income/expense, (b) market gains/losses resulting from temporary positions in securities assumed in the normal course of our agency trading business and financing costs from our customers' short settlement activities, (c) realized gains and losses in connection with our cash management and strategic investment activities, (d) subscription revenues for routing and other services in the U.S. and direct access connectivity in Canada from KTG, and (e) income/loss from positions taken by ITG Canada as customer facilitations (a customary practice in the Canadian marketplace) as well as income from same day Canadian interlisted arbitrage trading.

Receivables from brokers, dealers and other, net consist of commissions receivable, amounts receivable for securities transactions that have not yet reached their contractual settlement date and receivables from customers arising from the Company's prepayment of soft dollar research, net of an allowance for doubtful accounts, which is determined based upon management's estimate of the collectibility of such receivables. Transactions in securities, commission revenues and related expenses are recorded on a trade-date basis. The Company clears all securities transactions through other broker-dealers on a fully disclosed basis.

Securities owned, at fair value consist primarily of highly liquid, variable rate state and municipal government obligations, variable rate auction rate preferred stock, common stock and warrants, and mutual funds. Securities sold, not yet purchased, at fair value consist of common stock.

Included in securities owned are certain securities that are not readily marketable because (a) there is no market based upon quoted market prices from third parties, (b) they cannot be publicly offered or sold unless registration has been effected under the securities Act of 1933, or (c) they cannot be offered or sold because of other arrangements, restrictions, or conditions applicable to the securities or to the Company. At December 31, 2003, the Company held (a) warrants in a publicly traded company at an estimated fair value of $40,000 and (b) 758,000 shares of corporate stock in a privately held company with a fair value of zero as determined by management since a market price is not observable or measurable. In March 2004, the private company filed a registration statement on Form S-1 with the SEC in contemplation of an initial public offering of their stock. Marketable

securities owned are valued using market quotes from third parties. Unrealized gains and losses are included in other revenues in the Consolidated Statement of Income.

Investments in limited partnerships consist of investments in hedge funds investing primarily in marketable securities and a venture capital fund. At December 31, 2003, Investments in limited partnerships also included $9.4 million in money market funds related to the Inference Arbitrage Fund which was subsequently liquidated in January 2004 (with the proceeds reinvested in money market funds). These investments in limited partnerships do not have readily available price quotations. These investments are accounted for under the equity method, which approximates fair value, or at the fair value as estimated by management. In determining the estimated fair value, we considered all appropriate factors relevant to such investments and consistently apply the procedures for arriving at estimated fair value. However, because of the assumptions inherent to estimate fair value, actual fair value could differ from the estimated fair value as determined by management. Gains and losses for changes in fair value and other than temporary impairments are included in other revenues in the consolidated statements of income.

Soft dollar revenues and related prepaid and accrued soft dollar research balances for the years ended December 31, 2003, 2002, and 2001 were as follows:

	2003			2002			2001
	($ millions)
Net soft dollar commissions	$	53.2		$	33.6		$	28.9
Prepaid soft dollar research, gross		6.8			7.9			—
Allowance for prepaid soft dollar research		(2.0	)		(2.3	)		—

Prepaid soft dollar research, net of allowance		4.8			5.6			—
Accrued soft dollar research payable		18.8			20.9			11.1

Pursuant to the provisions of Statement of Financial Accounting Standards ("SFAS") No. 86, Accounting for the Costs of Computer Software to Be Sold, Leased, or Otherwise Marketed, we capitalize software development costs where technological feasibility of a product has been established. Technological feasibility is established when we have completed all planning, designing, coding and testing activities that are necessary to establish that the product can be produced to meet design specifications. All costs incurred to establish technological feasibility are expensed as incurred as required by SFAS No. 2, "Accounting for Research and Development Costs". The assessment of recoverability of capitalized software development costs requires considerable judgment by management with respect to certain external factors, including, but not limited to, anticipated future gross revenues, estimated economic life and changes in software and hardware technologies. We are amortizing capitalized software costs using the straight-line method over the estimated economic useful life, which is 24 months or less. Amortization begins when the product is available for release to customers. Amortization of software development costs is included in other general and administrative expenses in the consolidated statements of income.

All research and development costs are expensed as incurred. Research and development costs were $24.1 million, $23.0 million and $19.7 million for 2003, 2002 and 2001, respectively.

In accordance with SFAS No. 142, Goodwill and Other Intangible Assets, which became effective January 1, 2002, we discontinued the amortization of goodwill. SFAS No. 142 requires goodwill to be assessed no less than annually for impairment. An impairment loss is indicated if the estimated fair value of a reporting unit is less than its net book value. In such a case, the impairment loss is calculated as the amount by which the carrying value of goodwill exceeds the implied fair value of goodwill. Other intangibles with definite lives will continue to be amortized over their useful lives and are assessed annually for impairment pursuant to the provisions of SFAS No. 142 and SFAS No. 144, Accounting for Long Lived Assets and for Long Lived Assets to be Disposed Of.

Premises and equipment are carried at cost and are depreciated using the straight-line method over the estimated useful lives of the assets (generally three to five years). Leasehold improvements are amortized using the straight-line method over the lesser of the estimated useful lives of the related assets or the non-cancelable lease term.

Long-lived assets, including premises and equipment, are periodically reviewed for impairment by comparing undiscounted future cash flows expected to result from use of the assets with recorded balances. If the sum of the expected undiscounted future cash flows were less than the carrying amount of the assets, an impairment loss would be recognized. The impairment loss, if determined to be necessary, would be measured as the amount by which the carrying amount of the asset exceeds the fair value of the asset.

As is the normal practice in our industry, the values we report for certain long-lived assets, specifically exchange seats and stock exchange trading rights, are valued at cost or a lesser amount (fair market value) if there is an other-than-temporary impairment in value.

Income taxes are accounted for on the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is recorded against deferred tax assets if it is more likely than not that such assets will not be realized.

Basic earnings per share is determined by dividing earnings by the average number of shares of common stock outstanding, while diluted earnings per share is determined by dividing earnings by the average number of shares of common stock adjusted for the dilutive effect of common stock equivalents.

As of December 31, 2002, we account for stock-based employee compensation plans in accordance with Accounting Principles Board Opinion (APB) No. 25, Accounting for Stock Issued to Employees, as permitted by SFAS No. 123, Accounting for Stock-Based Compensation. In accordance with APB No. 25, compensation expense is not recognized for stock options that have no intrinsic value on the date of grant.

Effective January 1, 2003, we began to account for stock-based compensation in accordance with the fair-value method prescribed by SFAS No. 123, as amended by SFAS No. 148, Accounting for Stock-Based Compensation—Transition and Disclosure, using the prospective adoption method. Under this

method of adoption, compensation expense will be recognized based on the fair value of stock options and/or restricted stock units granted for fiscal 2003 and future years over the related service period. The company is permitted to grant performance based stock options and records stock based compensation expense for these options based on management's estimates of performance achievement.

Had compensation cost for our stock option plan been determined consistent with SFAS No. 123 for all years presented below, our net income and earnings per share would have been changed to the pro forma amounts indicated below (dollars in thousands, except per share data):

	2003			2002			2001
Net income, as reported	$	41,953		$	73,810		$	78,895
Add: Stock-based compensation expense Included in reported net income, net of tax $490		674			—			—
Deduct: Total stock-based compensation expense determined under fair value based method(a)		(5,420	)		(7,890	)		(7,315	)

Pro forma net income	$	37,207		$	65,920		$	71,580

Earnings per share:
Basic—as reported	$	0.89		$	1.52		$	1.65

Basic—pro forma	$	0.79		$	1.36		$	1.49

Diluted—as reported	$	0.89		$	1.51		$	1.62

Diluted—pro forma	$	0.79		$	1.35		$	1.47

Basic shares		46,996			48,464			47,886
Diluted shares		47,016			49,003			48,689

The fair value of each option grant is estimated on the date of grant using the Black Scholes option pricing model with the following weighted average assumptions used for grants in 2003, 2002 and 2001:

	2003	2002	2001
Dividend yield	0.0%	0.0%	0.0%
Risk free interest rate	2.3%	3.0%	4.6%
Expected volatility	45%	42%	47%
Expected life (years)	4.25	4.25	5.00

Assets and liabilities denominated in non-U.S. currencies are translated at rates of exchange prevailing on the date of the statement of financial condition, and revenues and expenses are translated at average rates of exchange during the fiscal year. Gains or losses on translation of the financial statements of a foreign operation, where the functional currency is other than the U.S. dollar, are reflected as a component of accumulated other comprehensive income in our stockholders' equity. Gains or losses on foreign currency transactions are included in other general and administrative expenses in the consolidated statements of income.

In the fourth quarter of 1998, we entered into a ⁵⁰/50 joint venture with Société Générale, and founded ITG Europe. On November 18, 1998, ITG Europe launched a new agency brokerage operation that included the operation of a European version of the POSIT system. On May 2, 2001, we purchased Société Générale's entire interest in ITG Europe for $18.5 million. The acquisition was recorded under the purchase method of accounting. The purchase price has been allocated to assets acquired and liabilities assumed based upon estimated fair market values at the date of acquisition. The $16.7 million excess of the purchase price over the estimated fair value of the net assets acquired has been allocated to goodwill.

On September 28, 2001, we acquired the KastenNet business of Kasten Chase Applied Research Limited for $7.4 million Canadian dollars (approximately US$4.7 million). KastenNet is a direct access provider that employs proprietary technology to connect its clients, Canadian broker-dealers, to the Toronto Stock Exchange. We acquired the assets of KastenNet via KTG, a wholly-owned subsidiary of ITG. The purchase price has been allocated to assets acquired and liabilities assumed based upon estimated fair market values at the date of acquisition. A software license we acquired amounting to US$4.2 million is being amortized on a straight-line basis over a fifteen-year period.

The consolidated financial statements include the results of operations of the above businesses from their respective dates of acquisition.

Under the terms of the transaction, Hoenig stockholders received approximately $105.0 million, or $11.58 per share, of which approximately $2.4 million, or $0.23 per share, have been placed into an escrow account. The initial $2.4 million cash deposit balance as well as any subsequent recoveries from third parties are classified in cash restricted or segregated under regulations and other and a corresponding liability is recorded as accounts payable and accrued expenses in our consolidated statement of financial condition as of December 31, 2003.

Such escrow requirement relates to the pursuit, on behalf of Hoenig Group Inc. shareholders, of certain insurance and other claims in connection with a $7.2 million pre-tax loss announced by Hoenig Group Inc. on May 9, 2002 as a result of unauthorized trading in foreign securities, by a former employee of Hoenig & Company Limited, in violation of Hoenig's policies and procedures.

The remaining purchase consideration, or $56.8 million, was recorded as goodwill. The results of operations of Hoenig have been included in our results of operations since September 3, 2002.

The following is a summary of the allocation of the purchase price in the Hoenig acquisition (dollars in thousands):

Purchase price	$	105,012
Acquisition costs		2,817

Total purchase price	$	107,829

Historical net assets acquired	$	53,435
Write-up of exchange seats and trading rights		4,200
Write-up of "Hoenig" trade name		486
Write-down of deferred tax assets		(3,659	)
Liabilities for restructuring and integration costs incurred		(3,129	)
Other, net		(329	)
Goodwill		56,825

Total purchase price	$	107,829

This business combination, accounted under the purchase method, was recorded using management's final assessment of the fair value of the net assets acquired.

The following represents the summary unaudited pro forma condensed combined results of operations for the years ended December 31, 2002 and 2001 as if the Hoenig acquisition had occurred at the beginning of each of the periods presented (dollars in thousands, except per share data):

	Year Ended December 31,
	2002		2001
Total revenues	$	417,606	$	424,261
Net income		66,493		77,785
Basic earnings per share		1.37		1.62
Diluted earnings per share		1.36		1.60

The pro forma results are not necessarily indicative of what would have occurred if the Hoenig acquisition had been in effect for the periods presented, nor are they indicative of the results that will occur in the future.

	Goodwill				Other Intangibles
	2003		2002		2003		2002
	(Dollars in thousands)
Reporting Units:
U.S. Operations	$	56,774	$	55,643	$	270	$	432
International Operations		20,369		21,890		4,477		4,602

Total	$	77,143	$	77,533	$	4,747	$	5,034

In accordance with SFAS No. 142, which became effective January 1, 2002, we discontinued the amortization of goodwill. SFAS No. 142 requires goodwill to be assessed no less than annually for impairment. Other intangibles with definite lives, continue to be amortized over their useful lives and are assessed annually for impairment pursuant to the provisions of SFAS No. 142 and SFAS No. 144, Accounting for Long Lived Assets and for Long Lived Assets to be Disposed Of.

On September 3, 2002, we recorded approximately $56.8 million of goodwill in relation to the completion of the Hoenig acquisition. See Note 3, Acquisitions. As of December 31, 2003, goodwill also included an aggregate of $20.3 million recognized as part of our November 2000 acquisition of ITG Australia and our May 2001 acquisition of ITG Europe. During the year ended December 31, 2003, no goodwill was deemed impaired and, accordingly, no write-off was required.

As of December 31, 2003 and December 31, 2002, other intangibles included (i) the software license acquired in 2001 from KastenNet ($4.4 million and $3.9 million respectively), (ii) the Hoenig trade name ($0.3 million and $0.5 million), and (iii) certain trading rights principally in Hong Kong ($0.1 million and $0.8 million). These other intangibles are amortized over their respective estimated useful life, which ranges from 3 to 15 years. As of December 31, 2003 we have taken a $0.5 million impairment write-down to reflect the fair value of our Hong Kong trading rights.

We recorded amortization expense in relation to other intangibles of approximately $0.6 million and $0.5 million for the years ended December 31, 2003 and December 31, 2002 respectively. Estimated amortization expense for existing other intangibles is approximately $2.0 million in total for the five-year period ending December 31, 2008.

Had we applied the non-amortization provisions of SFAS No. 142 during the year ended December 31, 2001, net income and per share data for the years ended December 31, 2003, 2002 and 2001 would have been as follows (dollars in thousands, except per share data):

	Year ended December 31,
	2003		2002		2001
Reported net income	$	41,953	$	73,810	$	78,895
Add back goodwill amortization		—		—		1,105

Adjusted net income	$	41,953	$	73,810	$	80,000

Basic earnings per share:
Reported net income	$	0.89	$	1.52	$	1.65
Add back amortization of goodwill		—		—		0.02

Adjusted net income	$	0.89	$	1.52	$	1.67

Diluted earnings per share:
Reported net income	$	0.89	$	1.51	$	1.62
Add back amortization of goodwill		—		—		0.02

Adjusted net income	$	0.89	$	1.51	$	1.64

In accordance with EITF No. 94-3, Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring), in 2002 we implemented a plan to align our infrastructure with expected levels of trading volume. As a result of this decision, we recorded a $5.9 million charge consisting of severance and related costs. The following is a summary of the restructuring charges recognized in December 2002 and the activity through December 31, 2003 (dollars in thousands):

Total restructuring charges	$	5,874
Amount paid in 2002		1,414

Balance at December 31, 2002		4,460
Amount paid in 2003		4,320
Adjustments 2003		(140	)

Balance at December 31, 2003	$	0

The following is a summary of securities owned and sold, not yet purchased at December 31:

		Securities Owned				Securities Sold, Not Yet Purchased
		2003		2002		2003		2002
		(Dollars in thousands)
Auction rate preferred stock		$	10,500	$	60,950	$	—	$	—
State and municipal government obligations			7,125		3,500		—		—
U.S. treasury securities			—		6,319		—		—
Corporate stocks			1,537		505		1,264		37
Other			5,012		4,370		—		—

	Total	$	24,174	$	75,644	$	1,264	$	37

Included in securities owned are certain securities that are not readily marketable because (a) there is no market based upon quoted market prices from third parties, (b) they cannot be publicly offered or sold unless registration has been effected under the securities Act of 1933, or (c) they cannot be offered or sold because of other arrangements, restrictions, or conditions applicable to the securities or to the Company. At December 31, 2003, the Company held (a) warrants at an estimated fair value of $40,000 and (b) 758,000 shares of corporate stock in a privately held company with a fair value of zero as determined by management since a market price is not observable or measurable. Marketable securities owned are valued using market quotes from third parties. Unrealized gains and losses are included in other revenues in the Consolidated Statement of Income.

The following is a summary of receivables from and payables to brokers, dealers and other at December 31:

We maintain an allowance for doubtful accounts based upon estimated collectibility of receivables. We recorded additions to the allowance of $0.4 million and $0.2 million, and reductions against the allowance of $0.1 million and $0.9 million during the years ended December 31, 2003 and 2002, respectively. We also reduced the allowance by $0.5 million for items originally included as part of the Hoenig purchase in 2002, but were subsequently collected in 2003.

		2003		2002
		(Dollars in thousands)
Furniture, fixtures and equipment		$	83,880	$	75,432
Leasehold improvements			14,668		13,967

			98,548		89,399
Less: accumulated depreciation and amortization			73,460		60,400

	Total	$	25,088	$	28,999

Depreciation and amortization expense relating to premises and equipment amounted to $14.4 million, $13.8 million, and $11.8 million in 2003, 2002, and 2001, respectively.

		2003		2002
		(Dollars in thousands)
Capitalized software costs		$	11,528	$	8,258
Less: accumulated amortization			4,953		1,676

	Total	$	6,575	$	6,582

Software costs totaling $5.0 million and $4.9 million were capitalized in 2003 and 2002, respectively, primarily for the development of new versions of several products. Also during 2003 and 2002, capitalized software costs and related accumulated amortization were each reduced by $1.7 million and $6.6 million, respectively for fully amortized costs.

Capitalized software costs of $1.1 million and $0.6 million were not subject to amortization as of December 31, 2003 and 2002, respectively, as the underlying products were not yet available for release to customers. In 2003, 2002 and 2001, other general and administrative expenses in our consolidated statements of income included $5.0 million, $2.4 million and $3.7 million, respectively, in relation to the amortization of capitalized software costs.

Accounts payable and accrued expenses consisted of the following at December 31:

		2003		2002
		(Dollars in thousands)
Deferred compensation		$	22,172	$	21,676
Accrued soft dollar research payables			18,797		20,927
Trade payables			10,813		9,818
Accrued compensation and benefits			6,197		7,307
Accrued restructuring costs			—		4,460
Accrued rent			2,387		2,372
Accrued telecom			2,132		1,890
Other accrued expenses			20,056		14,900

	Total	$	82,554	$	83,350

	2003			2002			2001
	(Dollars in thousands)
Current
Federal	$	22,134		$	47,050		$	55,038
State		7,235			5,879			6,913
Foreign		548			601			580

		29,917			53,530			62,531
Deferred
Federal		(1,699	)		480			(3,993	)
State		(470	)		(567	)		(1,321	)

		(2,169	)		(87	)		(5,314	)

Total	$	27,748		$	53,443		$	57,217

Deferred income taxes are provided for temporary differences in reporting certain items, principally deferred compensation. The tax effects of temporary differences that gave rise to the deferred tax asset at December 31 were as follows:

	2003			2002
	(Dollars in thousands)
Deferred compensation	$	9,712		$	9,549
Investment loss		3,659			3,659
Depreciation		3,055			2,606
NYSE exchange seats impairment		762			—
Valuation allowance		(3,659	)		(3,659	)
Other deferred tax liabilities, net		(1,382	)		(2,415	)

Total	$	12,147		$	9,740

The valuation allowance of $3,659,000 relates solely to a capital loss carryforward generated by Hoenig in 2001. At December 31, 2003, management believes it is unlikely to generate a sufficient amount of capital gain to utilize the deferred tax asset within the carryforward period (expiring June 30, 2006). There has been no change in the valuation allowance in the current year. Management believes that realization of the remaining net deferred tax asset is more likely than not based on future reversals of existing taxable temporary differences and anticipated future taxable income as well as potential carryback capacity.

The effective tax rate varied from the U.S. Federal statutory income tax rate due to the following:

	2003		2002		2001
U.S. Federal statutory income tax rate	35.0	%	35.0	%	35.0	%
State and local income taxes, net of Federal income tax effect	6.3		4.9		5.9
Non-deductible foreign losses	3.0		3.6		1.6
R&D tax credits	(5.0	)	(2.0	)	—
Other differences, net	0.5		0.5		(0.5	)

Effective income tax rate	39.8	%	42.0	%	42.0	%

Prior to our purchase of the remaining 50% stakes in our European subsidiaries in May 2001, the transactions described below were related party transactions.

Pursuant to a software license agreement between Investment Technology Group International Limited ("ITGIL") and ITG Ventures Ltd., formerly ITG Technologies Limited ("ITG Ventures"), ITGIL invoiced ITG Ventures $0.8 million, in 2001 for development services.

In 1999, ITG Inc. entered into service agreements with our related party, Investment Technology Group Limited. under which ITG Inc. provides introductory brokerage and related services. Investment Technology Group Limited's fees for these services are included in revenues and amounted to $473,000 in 2001.

We received royalty revenue from our related party, ITG Ventures in the amount of $170,000 in 2001, pursuant to software license agreements.

In November 2002, the FASB issued Interpretation No. 45, Guarantor's Accounting and Disclosure Requirement for Guarantees, Including Indirect Guarantees of Indebtedness of Others. This Interpretation clarifies the requirements of SFAS No. 5, Accounting for Contingencies, relating to the guarantor's

accounting for, and disclosure of, the issuance of certain types of guarantees. The adoption of Interpretation No. 45 did not have a material effect on our results of operations, financial position or cash flows.

Financial instruments that potentially subject us to concentrations of credit risk are primarily cash and cash equivalents, securities owned, at fair value and receivables from brokers, dealers and other. Cash and cash equivalents and securities owned, at fair value are deposited with high credit quality financial institutions.

ITG Inc., AlterNet and ITG Execution Services. are subject to the Uniform Net Capital Rule (Rule 15c3-1) under the Securities Exchange Act of 1934, which requires the maintenance of minimum net capital. ITG Inc. has elected to use the alternative method permitted by Rule 15c3-1, which requires that ITG Inc. maintain minimum net capital equal to the greater of $250,000 or 2% of aggregate debit balances arising from customer transactions. AlterNet and ITG Execution Services, Inc. have elected to use the basic method permitted by Rule 15c3-1, which requires that they maintain minimum net capital equal to the greater of $100,000 for AlterNet and $5,000 for ITG Execution Services, Inc., or 6²/3% of aggregate indebtedness.

At December 31, 2003, ITG Inc., AlterNet and ITG Execution Services. had net capital of $107.3 million, $3.6 million and $3.9 million, respectively, of which $107.0 million, $3.5 million and $3.9 million, respectively, was in excess of required net capital.

As of December 31, 2003, ITG Inc. on behalf of its Hoenig division, held a $4.3 million cash balance in a segregated bank account for the benefit of customers under certain directed brokerage arrangements.

Our dividend policy is to retain earnings to finance the operations and expansion of our businesses. As a result, we have never paid and do not anticipate paying cash dividends on our common stock at this time.

As part of our share repurchase program, our Board of Directors authorizes management to use its discretion to purchase an agreed-upon maximum number of shares of common stock in the open market or in negotiated transactions. During the year ended December 31, 2003, we purchased approximately 3.0 million shares of our common stock at an average cost of $16.73 per share and for $50.1 million in the aggregate. We purchased approximately 2.0 million shares of our common stock at an average cost of $31.75 per share and for $63.7 million in the aggregate during the year ended December 31, 2002. As of December 31, 2003, we repurchased all shares permitted under the most recent share repurchase program authorization.

Under the Amended and Restated 1994 Stock Option and Long-term Incentive Plan (the "1994 Plan"), options to purchase 9,506,096 shares of our Common Stock are reserved for issuance under the plan. Shares of Common Stock which are attributable to awards which have expired, terminated or been canceled or forfeited during any calendar year are generally available for issuance or use in connection with future awards during such calendar year. Options that have been granted under the 1994 Plan are exercisable on dates ranging through January 2010. The 1994 Plan will remain in effect until March 31, 2007, unless sooner terminated by the Board of Directors. After such date, no further stock options shall be granted but previously granted stock options shall remain outstanding in accordance with their applicable terms and conditions, as stated in the 1994 Plan.

In June 1995, the Board of Directors adopted, subject to stockholder approval, the Non-Employee Directors' Plan. The Non-Employee Directors' Plan generally provides for an annual grant to each non-employee director of an option to purchase 6,141 shares of Common Stock. In addition, the Non-Employee Directors' Plan provides for the automatic grant to a non-employee director, at the time he or she is initially elected, of a stock option to purchase 24,564 shares of Common Stock. Stock options granted under the Non-Employee Directors' Plan are non-qualified stock options having an exercise price equal to the fair market value of the Common Stock at the date of grant. All stock options granted through January 21, 2003 became exercisable three months after the date of grant. All options granted subsequent to January 21, 2003 vest and become exercisable in equal installments on or about the first, second, and third anniversaries of the grant date. Stock options granted under the Non-Employee Directors' Plan expire five years after the date of grant. A total of 557,050 shares of Common Stock are reserved for issuance under the Non-Employee Directors' Plan.

Under the 1994 Plan, the Company is permitted to grant performance based stock options. In 2003, performance-based options for 1.1 million shares were granted to select employees that vest, in whole or in part, on the third anniversary of the grant only if consolidated pre-tax profits of the Company reach certain levels. The Company recognizes stock based compensation expense (see Note 2—Summary of Significant Accounting Policies) over this three-year period. For the year-ended December 31, 2003, the Company recorded stock based compensation expense of $0.8 million based on management's estimates of performance achievement. The performance based options vest at the end of the three year period and could result in no options actually being granted as a result of not meeting the three-year performance metric. The option summary tables below include 100% of the options granted regardless of management's estimate of the likelihood of achieving the performance metric. No such performance based options were granted in 2002 or 2001.

A summary of the status of our stock option plan as of December 31, 2003, 2002 and 2001 and changes during the years ended on those dates is presented below:

		Number of Shares		Weighted Average Exercise Price
Options Outstanding
Outstanding at December 31, 2000		3,563,445		$	22.21
	Granted	1,314,903			35.70
	Exercised	(1,017,146	)		19.35
	Forfeited	(169,019	)		24.38

Outstanding at December 31, 2001		3,692,183			27.70
	Granted	949,630			31.87
	Exchanged by Hoenig employees for ITG options	99,448			22.02
	Exercised	(759,146	)		23.87
	Forfeited	(84,419	)		27.44

Outstanding at December 31, 2002		3,897,696			29.36
	Granted	1,367,551			13.80
	Exercised	(32,423	)		13.53
	Forfeited	(794,556	)		26.25

Outstanding at December 31, 2003		4,438,268			25.47

Amount Exercisable at December 31,
	2003	2,242,818			28.18
	2002	1,773,183			27.69
	2001	1,259,100			24.18

The provision for income taxes excludes current tax benefits related to the exercise of stock options of $0.3 million, $5.5 million and $8.5 million for the years ended December 31, 2003, 2002 and 2001, respectively. Such benefit is reflected as an increase to Stockholders' Equity.

The following table summarizes information about stock options outstanding at December 31, 2003:

	Options Outstanding				Options Exercisable
Range of Exercise Prices	Number Outstanding at December 31, 2003	Weighted Average Remaining Contractual Life (Years)	Weighted Average Exercise Price		Number Exercisable at December 31, 2003	Weighted Average Exercise Price
$ 9.69 – $19.39	1,317,100	3.78	$	13.86	136,613	$	14.56
19.40 – 25.72	861,186	0.53		15.99	861,186		24.46
25.73 – 33.85	1,542,736	2.74		30.08	804,696		28.84
33.86 – 45.82	711,239	3.07		38.00	434,316		38.31
45.83 – 51.85	6,007	3.24		51.85	6,007		51.85

$ 9.69 – $51.85	4,438,268	2.73	$	25.47	2,242,818	$	28.18

All U.S. employees are eligible to participate in the Investment Technology Group, Inc. Retirement Savings Plan and the Investment Technology Group, Inc. Money Purchase Pension Plan (the "Plans"). These Plans include all eligible compensation (base salary, bonus, commissions, options and overtime) up to the Internal Revenue Service annual maximum, or $200,000 for 2003. The Plans' features include a guaranteed Company contribution of 3% of eligible pay to be made to all eligible employees regardless of participation in the Plans, a discretionary Company contribution based on total consolidated Company profits between 0% and 8% of eligible compensation regardless of participation in the Plans and a Company matching contribution of 66²/3% of voluntary employee contributions up to a maximum of 6% of eligible compensation per year. The costs for the Plans were $3,335,000, $2,767,000 and $6,221,000 in 2003, 2002 and 2001, respectively, and are included in compensation and employee benefits in the consolidated statements of income.

Effective January 1, 1998, selected members of senior management and key employees participated in the Stock Unit Award Program ("SUA"), a mandatory tax-deferred compensation program established under the Amended and Restated 1994 Stock Option and Long-term Incentive Plan. Under the SUA, selected participants of the Company are required to defer receipt of (and thus defer taxation on) a graduated portion of their total cash compensation for units representing common stock equal in value to 115% of the compensation deferred. Each participant is automatically granted units, 15 days following the end of each calendar quarter based on participant's actual or assigned compensation reduction. The units are at all times fully vested and non-forfeitable. The units are to be settled on or after the third anniversary of the date of grant. Effective April 1, 2003, the SUA plan was amended prospectively to include mandatory participation for all employees earning total compensation per annum of $200,000 and greater. The amended plan also deferred receipt of (and thus taxation on) a graduated portion of their total cash compensation for units representing the Company's common stock equal in value to 130% of the compensation deferred. The units representing 100% of the total compensation deferred are at all times fully vested and non-forfeitable; however the units are restricted to settlement to common shares half of which are to be distributed on the third anniversary of the deferral and the remaining half on the sixth anniversary of deferment. The match representing 30% is contingent only on employment with the Company and vests 50% on the third anniversary of the match and the remaining 50% on the sixth year of the match. We included the participants' deferral in compensation expense and recognized additional compensation expense of $227,000, $758,000, and $801,000 in 2003, 2002, and 2001, respectively, which represents the 15% (and 30%, effective April 1, 2003) excess over the amount actually deferred by the participants. During 2003, 2002, and 2001, we granted 219,054, 115,477, and 170,808 units, respectively, to the employees in the SUA. During 2003, 2002, and 2001 we issued 127,769, 99,230 and 158,889 shares, respectively, of our common stock in connection with the SUA.

Under the Directors' Retainer Fee Subplan, adopted in 2002, directors who are not our employees receive an annual retainer fee of $50,000. This retainer fee is payable, at the election of each director, either in (i) cash, (ii) ITG common stock valued at $50,000 on the grant date or (iii) under a deferred compensation plan which provides deferred share units valued at $50,000 on the grant date which convert to freely sellable shares when the director retires from our board of directors. The cost of the Directors' Retainer Fee Subplan was $350,000 and $150,000 in 2003 and 2002, respectively, and is included in other general and administrative expenses in the consolidated statements of income.

In November 1997, our Board of Directors approved the ITG Employee Stock Purchase Plan ("ESPP"), an employee stock purchase plan qualified under Section 423 of the Internal Revenue Code. The ESPP became effective February 1, 1998 and allows all full-time employees to purchase shares of our Common Stock at a 15% discount through automatic payroll deductions.. In 2003, upon adoption of the fair value method for recording stock based compensation, we recognized expense of $146,000 in connection with the 15% discount provided to ESPP participants.

Net earnings per share of common stock is based upon an adjusted weighted average number of shares of common stock outstanding to reflect our three-for-two stock split in December 2001. The average number of outstanding shares for the years ended December 31, 2003, 2002, and 2001 were 47.0 million, 48.5 million and 47.9 million, respectively.

The following is a reconciliation of the basic and diluted earnings per share computations for the years ended December 31:

		2003		2002		2001
		(In thousands, except per share amounts)
Net income for basic and diluted earnings per share		$	41,953	$	73,810	$	78,895

Shares of common stock and common stock equivalents:
	Average number of common shares		46,996		48,464		47,886

	Average shares used in basic computation		46,996		48,464		47,886
	Effect of dilutive securities		20		539		803

	Average shares used in diluted computation		47,016		49,003		48,689

Earnings per share:
	Basic	$	0.89	$	1.52	$	1.65

	Diluted	$	0.89	$	1.51	$	1.62

At December 31, 2003, 2002 and 2001, approximately 3,691,000, 759,000 and 767,000 securities, respectively, were not included in the computation of diluted earnings per share because their effects would have been antidilutive.

We have entered into lease and sublease agreements with third parties for certain offices and equipment, which expire at various dates through 2018. Rent expense for the years ended

December 31, 2003, 2002, and 2001 was $8.9 million, $7.7 million, and $6.0 million, respectively. Minimum future rental commitments under non-cancelable operating leases follow:

Year Ending December 31,		(dollars in thousands)
2004		$	8,622
2005			7,523
2006			5,021
2007			4,896
2008			4,940
2009 and thereafter			18,828

	Total	$	49,830

Pursuant to employment agreements expiring in 2004, we are obligated to pay five employees aggregate minimum compensation of $4.5 million in the year ending December 31, 2004. In the event of termination of employment without cause prior to their respective expiration, these agreements provide for aggregate severance payments totaling the lower of $4.5 million or the remaining minimum compensation due, net of payments made through the termination date.

Segment information is presented in accordance with SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information".

The Company's business structure is organized into two reportable segments: U.S. operations and international operations. The U.S. Operations segment provides equity trading and research services to institutional investors, brokers and alternative investment funds and money managers in the U.S. The International Operations segment includes our brokerage businesses in Australia, Canada, Europe, and Hong Kong, as well as a research facility in Israel.

Due to the highly integrated nature of global financial markets, the Company manages its international operations segment as a whole. Accordingly, management believes that results by geographic region are not necessarily conducive to a better understanding of its business.

The accounting policies of the reportable segments are the same as those described in the summary of significant accounting policies. Intersegment transactions that occur are based on specific criteria or approximate market prices. The Company allocates resources to and evaluates performance of its reportable segments based on income before income tax expense.

A summary of the segment financial information is as follows (dollars in thousands):

	U.S. Operations		International Operations			Consolidated
2003
Total revenues	$	273,781	$	60,211		$	333,992
Income (loss) before income tax expense		74,262		(4,561	)		69,701
Identifiable Assets		344,525		305,323			649,848
Capital purchases		8,675		1,421			10,096
2002
Total revenues	$	346,040	$	41,541		$	387,581
Income (loss) before income tax expense		137,919		(10,666	)		127,253
Identifiable Assets		360,052		234,202			594,254
Capital purchases		10,144		3,523			13,667
2001
Total revenues	$	351,041	$	26,366		$	377,407
Income (loss) before income tax expense		142,461		(6,349	)		136,112
Identifiable Assets		337,039		81,439			418,478
Capital purchases		12,065		1,488			13,553

The following tables set forth certain unaudited financial data for our quarterly operations in 2003, 2002, and 2001. The following information has been prepared on the same basis as the annual information presented elsewhere in this report and, in the opinion of management, includes all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the information for the quarterly periods presented. The operating results for any quarter are not necessarily indicative of results for any future period.

INVESTMENT TECHNOLOGY GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

Earnings per share for quarterly periods are based on average common shares outstanding in individual quarters; thus, the sum of earnings per share of the quarters may not equal the amounts reported for the full year.

INVESTMENT TECHNOLOGY GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

The Company's management, with the participation of the Company's Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company's disclosure controls and procedures (as such term is defined in Rule 13a-15(e) under the Exchange Act) as of the end of the period covered by this report. Based on such evaluation, as of the end of such period, the Company's Chief Executive Officer and Chief Financial Officer have concluded that the Company's disclosure controls and procedures are effective.

Information with respect to this item is contained in the Proxy Statement for the 2004 Annual Meeting of Stockholders, which is incorporated herein by reference.

		Page
Independent Auditors' Report		45
Consolidated Statements of Financial Condition		46
Consolidated Statements of Income		47
Consolidated Statements of Changes in Stockholders' Equity		48
Consolidated Statements of Cash Flows		49
Notes to Consolidated Financial Statements		50

Schedules are omitted because the required information either is not applicable or is included in the financial statements or the notes thereto.

Exhibits Number		Description
2.1		Agreement and Plan of Merger, dated as of March 17, 1999, by and between Jefferies Group, Inc. Company (incorporated by reference to Exhibit 2.1 Annual Report on Form 10-K for the year ended December 31, 1998).
2.2		Distribution Agreement, dated as of March 17, 1999, by and among Jefferies Group, Inc. and JEF Holding Inc. (incorporated by reference to Exhibit 2.2 to the Annual Report on Form 10-K for the year Company, ended December 31, 1998).
3.1		Certificate of Incorporation of the Company (incorporated by reference to Exhibit 3.1 to the Annual Report on Form 10-K for the year ended December 31,1999).
3.2		By-laws of the Company (incorporated by reference to Exhibit 3.2 to the Annual Report on Form 10-K for the year ended December 31, 1999).
4.1		Form of Certificate for Common Stock of the Company (incorporated by reference to Exhibit 4.1 to the Annual Report on Form 10-K for the year ended December 31, 1999).
10.1		Joint Venture Agreement, dated October 1, 1987, between Jefferies & Company, Inc. and BARRA, Inc. (formerly Barr Rosenberg Associates, Inc.) (incorporated by reference to Exhibit 10.1.1 to Registration Statement Number 33-76474 on Form S-1 as declared effective by the Securities and Exchange Commission on May 4, 1994 (the "Registration Statement")).
10.1.1		Exclusive Software License Agreement, dated October 1, 1987, between the POSIT Joint Venture and Jefferies & Company, Inc. (incorporated by reference to Exhibit 10.1.2 to Registration Statement).
10.1.2		Amendment No. 1 to Exclusive Software License Agreement, dated August 1, 1990, between the POSIT Joint Venture and Jefferies & Company, Inc. (incorporated by reference to Exhibit 10.1.3 to Registration Statement).

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons and on behalf of the Registrant in the capacities and on the dates indicated.

(Mark One)
ý	Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the fiscal year ended December 31, 2003
o	Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from to

DELAWARE (State of incorporation)		95-2848406 (IRS Employer Identification No.)
380 Madison Avenue, New York, New York (Address of principal executive offices)		(212) 588-4000 (Registrant's telephone number, including area code)
10017 (Zip Code)

Aggregate market value of the voting stock held by non-affiliates of the Registrant at March 2, 2004:	Number of shares outstanding of the Registrant's Class of common stock at March 2, 2004:
$681,148,281	43,803,748

		Year Ended December 31,
		2003			2002			2001			2000			1999
		(In thousands, except per share amounts)
Consolidated Statement of Income Data:
Total revenues		$	333,992		$	387,581		$	377,407		$	310,405		$	232,044
Total expenses			264,291			260,328			241,295			197,409			149,183

Income before income taxes			69,701			127,253			136,112			112,996			82,861
Income tax expense			27,748			53,443			57,217			49,403			37,435

Net income		$	41,953		$	73,810		$	78,895		$	63,593		$	45,426

Basic earnings per share		$	0.89		$	1.52		$	1.65		$	1.37		$	0.99

Diluted earnings per share		$	0.89		$	1.51		$	1.62		$	1.34		$	0.95

Basic weighted average number of common shares outstanding (in millions)			47.0			48.5			47.9			46.5			46.0
Diluted weighted average number of common shares outstanding (in millions)			47.0			49.0			48.7			47.3			47.9
Consolidated Statement of Financial Condition Data:(1)
Total assets		$	649,848		$	594,254		$	418,478		$	281,712		$	179,488
Total stockholders' equity		$	361,303		$	356,509		$	317,944		$	210,416		$	115,652
Other Selected Financial Data:
Revenues per trading day by U.S. Operations (in thousands)		$	1,086		$	1,373		$	1,416		$	1,232		$	921
Revenues per trading day by Non U.S. Operations (in thousands)			239			165			106			—			—
Shares executed per trading day by U.S. Operations (in millions)			81			98			91			65			46
Average number of employees			617			643			524			368			293
Total number of U.S. customers(2)			1,014			1,085			636			613			572
	POSIT(2)		544			559			551			521			492
	Electronic Trading Desk(2)		452			449			444			418			411
	Client Site(3)		245			290			258			254			240
	Soft Dollar(2)		436			423			—			—			—
Total number of Non U.S. customers(2)			517			457			292			34			—
Total number of U.S. customer Client Site installations(1,3)			673			658			591			480			399
Return on average stockholders' equity			11.5	%		21.2	%		30.4	%		38.1	%		34.4	%
Book value per share(4)		$	8.08		$	7.50		$	6.54		$	4.44		$	2.57
Tangible book value per share(4)		$	6.25		$	5.76		$	6.03		$	4.34		$	2.55
Price to earnings ratio using diluted earnings per share			18.1			14.8			24.1			20.7			19.9

POSIT		2003		2002		Change			% Change
U.S. POSIT system:
	Shares crossed (in billions)		6.4		7.7		(1.3	)	(17	)
	Average shares per day (in millions)		25.3		30.5		(5.2	)	(17	)
European POSIT system:
	Contract value of shares crossed ($ billions)	$	20.6	$	14.8	$	5.8		39

		Year Ended December 31,
		Year Ended December 31,							% Change
		2003		2002		Change			% Change
U.S. Operations		$	273,781	$	346,040	$	(72,259	)	(21	)
International Operations			60,211	$	41,541		18,670		45

	Consolidated	$	333,992	$	387,581	$	(53,589	)	(14	)

	Year Ended December 31,
	Year Ended December 31,							% Change
	2003		2002		Change			% Change
Consolidated
Compensation and employee benefits	$	118,070	$	114,402	$	3,668		3
Transaction processing		46,316		50,459		(4,143	)	(8	)
Software royalties		16,894		19,643		(2,749	)	(14	)
Occupancy and equipment		31,149		28,017		3,132		11
Telecommunications and data processing services		18,334		17,453		881		5
Restructuring charges		—		5,874		(5,874	)	(100	)
Other general and administrative		33,528		24,480		9,048		37
Income taxes		27,748		53,443		(25,695	)	(48	)
U.S. Operations
Compensation and employee benefits		88,515		89,144		(629	)	(1	)
Transaction processing		31,668		41,836		(10,168	)	(24	)
Software royalties		14,659		18,468		(3,809	)	(21	)
Occupancy and equipment		24,605		22,390		2,215		10
Telecommunications and data processing services		12,768		12,459		309		2
Restructuring charges		—		4,631		(4,631	)	(100	)
Other general and administrative		27,305		19,193		8,112		42
Income taxes		26,008		52,848		(26,840	)	(51	)
International Operations
Compensation and employee benefits		29,555		25,258		4,297		17
Transaction processing		14,648		8,623		6,025		70
Software royalties		2,235		1,175		1,060		90
Occupancy and equipment		6,544		5,627		917		16
Telecommunications and data processing services		5,566		4,994		572		11
Restructuring charges		—		1,243		(1,243	)	(100	)
Other general and administrative		6,223		5,287		936		18
Income taxes		1,740		595		1,145		192

		Payments due by period
		Total		Less than 1 year		1-3 years		3-5 years		More than 5 years
		($ thousands)
Contractual obligations
Long-term debt obligations		$	—	$	—	$	—	$	—	$	—
Capital lease obligations			—		—		—		—		—
Operating lease obligations			49,830		8,622		12,544		9,836		18,828
Minimum compensation
	employment agreements		4,545		4,545		—		—		—
Purchase obligations			2,720		759		1,268		693		—
Other long-term liabilities reflected
	on balance sheet under GAAP		—		—		—		—		—

Total		$	57,095	$	13,926	$	13,812	$	10,529	$	18,828

		December 31,
		2003			2002
Assets
Cash and cash equivalents		$	239,013		$	180,970
Cash restricted or segregated under regulations and other			11,892			12,302
Securities owned, at fair value			24,174			75,644
Receivables from brokers, dealers and other, net			219,860			159,293
Investments in limited partnerships			19,529			26,104
Premises and equipment			25,088			28,999
Capitalized software			6,575			6,582
Goodwill			77,143			77,533
Other intangibles			4,747			5,034
Deferred taxes			12,147			9,740
Other assets			9,680			12,053

Total assets		$	649,848		$	594,254

Liabilities and Stockholders' Equity
Liabilities:
Accounts payable and accrued expenses		$	82,554		$	83,350
Payables to brokers, dealers and other			187,764			139,138
Software royalties payable			4,209			4,122
Securities sold, not yet purchased, at fair value			1,264			37
Income taxes payable			12,754			11,098

	Total liabilities		288,545			237,745

Commitments and contingencies (Note 18)
Stockholders' Equity:
Preferred stock, par value $0.01 1,000,000 shares authorized; no shares issued or outstanding			—			—
Common stock, par value $0.01; 100,000,000 shares authorized; 51,262,743 and 51,220,201 shares issued at December 31, 2003 and 2002, respectively; and 44,740,279 and 47,530,479 shares outstanding at December 31, 2003 and 2002, respectively			513			512
Additional paid-in capital			157,319			155,085
Retained earnings			333,978			292,025
Common stock held in treasury, at cost; shares: 6,522,464 and 3,689,722 at December 31, 2003 and 2002, respectively			(138,641	)		(92,471	)
Accumulated other comprehensive income:
	Currency translation adjustment		8,134			1,358

	Total stockholders' equity		361,303			356,509

Total liabilities and stockholders' equity		$	649,848		$	594,254

		Preferred Stock		Common Stock		Additional Paid-In Capital			Retained Earnings		Common Stock Held in Treasury			Accumulated Other Comprehensive Income (Loss)			Total Stockholders' Equity
Balance at January 1, 2001			—		511		138,127			139,320		(67,186	)		(356	)		210,416
Issuance of common stock in connection with the employee stock option plan (1,017,151 shares) and the employee stock unit award plan (158,889 shares)			—		—		6,902			—		21,247			—			28,149
Issuance of common stock in connection with the employee stock purchase plan (40,470 shares)			—		1		1,147			—		—			—			1,148
Effect of the 3-for-2 stock split payout of fractional shares			—		—		(45	)		—		—			—			(45	)
Comprehensive income:
	Net income		—		—		—			78,895		—			—			78,895
Other comprehensive income (loss):
	Currency translation adjustment		—		—		—			—		—			(619	)		(619	)

Comprehensive income																		78,276

Balance at December 31, 2001			—		512		146,131			218,215		(45,939	)		(975	)		317,944

Issuance of common stock in connection with the employee stock option plan (759,146 shares), the employee stock unit award plan (99,230 shares), and the directors' retainer fee subplan (614 shares)			—		—		6,460			—		17,141			—			23,601
Issuance of common stock in connection with the employee stock purchase plan (35,712 shares)			—		—		1,188			—		—			—			1,188
Purchase of common stock for treasury (2,005,400 shares)			—		—		—			—		(63,673	)		—			(63,673	)
Exchange of Hoenig stock options for ITG stock options			—		—		1,306			—		—			—			1,306
Comprehensive income:
	Net income		—		—		—			73,810		—			—			73,810
Other comprehensive income (loss):
	Currency translation adjustment		—		—		—			—		—			2,333			2,333

Comprehensive income																		76,143

Balance at December 31, 2002			—	$	512	$	155,085		$	292,025	$	(92,471	)	$	1,358		$	356,509

Issuance of common stock in connection with the employee stock option plan (32,423 shares), the employee stock unit award plan (127,769 shares), and the directors' retainer fee subplan (2,745 shares)			—		—		288			—		3,939			—			4,227
Issuance of common stock in connection with the employee stock purchase plan (42,542 shares)			—		1		782			—		—			—			783
Stock-based compensation			—		—		1,164			—		—			—			1,164
Purchase of common stock for treasury (2,995,679 shares)			—		—		—			—		(50,109	)		—			(50,109	)
Comprehensive income:
	Net income		—		—		—			41,953		—			—			41,953
Other comprehensive income:
	Currency translation adjustment		—		—		—			—		—			6,776			6,776

Comprehensive income																		48,729

Balance at December 31, 2003		$	—	$	513	$	157,319		$	333,978	$	(138,641	)	$	8,134		$	361,303

		Unaudited Year Ended December 31, 2003								Unaudited Year Ended December 31, 2002
		Fourth Quarter		Third Quarter		Second Quarter		First Quarter		Fourth Quarter		Third Quarter		Second Quarter		First Quarter
		(In thousands, except per share amounts)
Total Revenues		$	86,517	$	85,322	$	88,642	$	73,511	$	93,571	$	96,874	$	99,398	$	97,738
Expenses:
	Compensation and employee benefits		29,836		29,028		30,438		28,768		29,997		28,770		29,474		26,161
	Transaction processing		12,756		11,501		11,965		10,094		13,727		13,160		11,664		11,908
	Software royalties		4,367		4,881		4,530		3,116		3,772		4,563		5,387		5,921
	Occupancy and equipment		7,431		7,963		8,093		7,662		7,574		7,311		6,851		6,281
	Telecommunications and data processing services		4,630		4,457		4,757		4,490		4,888		4,279		4,040		4,246
	Restructuring charges		—		—		—		—		5,874		—		—		—
	Other general and administrative		9,536		8,106		8,746		7,140		7,053		5,794		6,196		5,437

Total expenses			68,556		65,936		68,529		61,270		72,885		63,877		63,612		59,954

Income before income tax expense			17,961		19,386		20,113		12,241		20,686		32,997		35,786		37,784
Income tax expense			5,504		8,194		8,298		5,752		8,620		14,222		14,985		15,616

Net income		$	12,457	$	11,192	$	11,815	$	6,489	$	12,066	$	18,775	$	20,801	$	22,168

Basic earnings per share		$	0.27	$	0.24	$	0.25	$	0.14	$	0.25	$	0.39	$	0.43	$	0.45

Diluted earnings per share		$	0.27	$	0.24	$	0.25	$	0.14	$	0.25	$	0.39	$	0.42	$	0.45

Basic weighed average number of common shares outstanding			46,257		47,168		47,227		47,337		47,785		48,247		48,941		48,893

Diluted weighted average number of common shares outstanding			46,284		47,197		47,237		47,353		47,927		48,581		49,597		49,723

10.1.3		Consent of BARRA, Inc. to the assignment to the Company of the interests of Jefferies & Company, Inc. in the Posit Joint Venture referenced in item 10.1.1 and rights in the Software License Agreement referenced in item 10.1.2 (incorporated by reference to Exhibit 10.1.4 to Registration Statement).
10.2		Fully Disclosed Clearing Agreement, dated as of January 1, 1999, by and between Jefferies & Company, Inc. and ITG Inc. (incorporated by reference to Exhibit 10.2.3 to the Annual Report on Form 10-K for the year ended December 31, 1998).
10.2.1		Benefits Agreement, dated as of March 17, 1999, by and between Jefferies Group, Inc. and JEF Holding Company, Inc. (incorporated by reference to Exhibit 10.2.4 to the Annual Report on Form 10-K for the year ended December 31, 1998).
10.2.2		Amended and Restated Tax Sharing Agreement, dated as of March 17, 1999, by and among Jefferies Group, Inc., JEF Holding Company, Inc. and the Company (incorporated by reference to Exhibit 10.2.5 to the Annual Report on Form 10-K for the year ended December 31, 1998).
10.2.3		Tax Sharing and Indemnification Agreement, dated as of March 17, 1999, by and among Jefferies Group, Inc., JEF Holding Company, Inc. and the Company (incorporated by reference to Exhibit 10.2.6 to the Annual Report on Form 10-K for the year ended December 31, 1998).
10.3		Amended and Restated 1994 Stock Option and Long-Term Incentive Plan (incorporated by reference to Exhibit A to the 1997 Annual Meeting Proxy Statement).
10.3.1		Non-Employee Directors' Stock Option Plan (incorporated by reference to Appendix A to the 1996 Annual Meeting Proxy Statement).
10.3.2		Form of Stock Option Agreement between the Company and certain employees of the Company (incorporated by reference to Exhibit 10.4.3 to the Annual Report on Form 10-K for the year ended December 31, 1999).
10.3.3*		Amended Form of Stock Option Agreement between the Company and certain employees of the Company (2003).
10.3.4		Amended and Restated Pay-For-Performance Incentive Plan (incorporated by reference to Exhibit A to the 2003 Annual Meeting Proxy Statement).
10.3.5		Employee Stock Purchase Plan (incorporated by reference to Exhibit 10.3.1A to the Annual Report on Form 10-K for the year ended December 31, 1997).
10.3.6		Fourth Amended and Restated Stock Unit Award Program (incorporated by reference to Exhibit 10.1 to the Quarterly Report on Form 10-Q for the quarter ended June 27, 2003).
10.3.7		Investment Technology Group, Inc. Deferred Compensation Plan, dated as of January 1, 1999 (incorporated by reference to Exhibit 10.4.7 to the Annual Report on Form 10-K for the year ended December 31, 1999).
10.3.8		Employment Agreement between ITG Inc. and Raymond L. Killian, Jr., dated July 1, 2002 (incorporated by reference to Exhibit 10.1 to the Quarterly Report on Form 10-Q for the quarter ended September 27, 2002).
10.3.9		Investment Technology Group, Inc. Directors' Retainer Fee Subplan (incorporated by reference to Exhibit 10.3 to the Quarterly Report on Form 10-Q for the quarter ended September 27, 2002).

10.4		Lease, dated July 11, 1990, between AEW/LBA Acquisition Co. LLC (as successor to 400 Corporate Pointe, Ltd.) and Integrated Analytics Corporation, as assigned by Integrated Analytics Corporation to the Company (incorporated by reference to Exhibit 10.3.3 to Registration Statement).
10.4.1		First Amendment to Lease, dated as of June 1, 1995, between AEW/LBA Acquisition Co. LLC (as successor to 400 Corporate Pointe, Ltd.) and the Company (incorporated by reference to Exhibit 10.5.7 to Annual Report of Form 10-K for the year ended December 31, 1996).
10.4.2		Second Amendment to Lease, dated as of December 5, 1996, between Arden Realty Limited Partnership and the Company (incorporated by reference to Exhibit 10.5.2 to the Annual Report on Form 10-K for the year ended December 31, 1997).
10.4.3		Third Amendment to Lease, dated as of March 13, 1998 between Arden Realty Finance Partnership, L.P. and the Company (incorporated by reference to Exhibit 10.5.3 to the Annual Report on Form 10-K for the year ended December 31, 1999).
10.4.4		Fourth Amendment to Lease, dated as of February 29, 2000 between Arden Realty Finance Partnership, L.P. and the Company (incorporated by reference to Exhibit 10.5.4 to the Annual Report on Form 10-K for the year ended December 31, 1999).
10.4.5		Lease, dated as of February 29, 2000 between Arden Realty Finance IV, L.L.C. and the Company (incorporated by reference to Exhibit 10.5.5 to the Annual Report on Form 10-K for the year ended December 31, 1999).
10.4.6		First Amendment to lease, dated as of April 1, 2000, between Arden Realty Finance IV, L.L.C. and the Company (incorporated by reference to Exhibit 10.5.6 to the Annual Report on Form 10-K for the year ended December 31, 2001).
10.4.7		Lease, dated October 4, 1996, between Spartan Madison Corp. and the Company (incorporated by reference to Exhibit 10.5.3 to the Annual Report on Form 10-K for the year ended December 31, 1997).
10.4.8		First Supplemental Agreement, dated as of January 29, 1997, between Spartan Madison Corp. and the Company (incorporated by reference to Exhibit 10.5.4 to the Annual Report on Form 10-K for the year ended December 31, 1997).
10.4.9		Second Supplemental Agreement, dated as of November 25, 1997, between Spartan Madison Corp. and the Company (incorporated by reference to Exhibit 10.5.5 to the Annual Report on Form 10-K for the year ended December 31, 1997).
10.4.10		Third Supplemental Agreement dated as of September 29, 1999 between Spartan Madison Corp. and the Company (incorporated by reference to Exhibit 10.5.9 to the Annual Report on Form 10-K for the year ended December 31, 1999).
10.4.11		Lease dated March 10, 1995, between Boston Wharf Co. and the Company (incorporated by reference to Exhibit 10.5.6 to the Annual Report on Form 10-K for the year ended December 31, 1997).
10.5*		Stock Purchase Agreement dated as of June 11, 2003, by and among the Company, Radical Corporation, and the Individuals Named Therein.
21*		Subsidiaries of Company.
31.1*		Rule 13a-14(a) Certification

31.2*		Rule 13a-14(a) Certification
32.1*		Section 1350 Certification
23*		Consent of KPMG LLP.

		INVESTMENT TECHNOLOGY GROUP, INC.
		By:	/s/ HOWARD C. NAPHTALI Howard C. Naphtali Chief Financial Officer and Duly Authorized Signatory of Registrant

Name	Title	Date

/s/ ROBERT J. RUSSEL Robert J. Russel	Chief Executive Officer, President and Director	March 12, 2004
/s/ HOWARD C. NAPHTALI Howard C. Naphtali	Managing Director and Chief Financial Officer (Principal Financial Officer)	March 12, 2004
/s/ ANGELO BULONE Angelo Bulone	Senior Vice President and Controller (Principal Accounting Officer)	March 12, 2004
/s/ FRANK E. BAXTER Frank E. Baxter	Director	March 12, 2004
/s/ J. WILLIAM BURDETT J. William Burdett	Director	March 12, 2004
/s/ NEAL S. GARONZIK Neal S. Garonzik	Director	March 12, 2004
/s/ RAYMOND L. KILLIAN, JR. Raymond L. Killian, Jr.	Chairman of the Board of Directors	March 12, 2004

/s/ WILLIAM I JACOBS William I Jacobs	Director	March 12, 2004
/s/ ROBERT L. KING Robert L. King	Director	March 12, 2004
/s/ MAUREEN O'HARA Maureen O'Hara	Director	March 12, 2004
/s/ MARK A. WOLFSON Mark A. Wolfson	Director	March 12, 2004