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SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



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FORM 10-Q



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QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d)

OF THE SECURITIES EXCHANGE
ACT OF 1934

FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2005



001-14223

Commission File Number



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KNIGHT TRADING GROUP, INC.

(Exact name of registrant as specified in its charter)



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DELAWARE

(State or other jurisdiction of incorporation or organization)



22-3689303

(I.R.S. Employer
Identification Number)



545 Washington Boulevard, Jersey
City, NJ 07310

(Address of principal executive offices and zip code)



Registrants telephone number, including area code: (201) 222-9400



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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  x    No ̈



Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act
Rule 12b-2)    Yes  x    No ̈



Indicate the number of shares outstanding of each of the issuers
classes of common stock, as of the latest practicable date:



At
May 9, 2005 the number of shares outstanding of the Registrants Class A Common Stock was 107,394,944 and there were no shares outstanding of the Registrants Class B Common Stock as of such date.



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##### Table of Contents

KNIGHT TRADING GROUP, INC.



FORM 10-Q
QUARTERLY REPORT



For the Quarter Ended March 31, 2005



TABLE OF CONTENTS



|           |  |                                                                                       |  |   
|---------- |  | ------------------------------------------------------------------------------------- |  | --
|PART I     |  | FINANCIAL INFORMATION:                                                                |  |   
|           |  |                                                                                      
|Item 1.    |  | Financial Statements                                                                  |  | 3 
|           |  | Consolidated Statements of Operations                                                 |  | 3 
|           |  | Consolidated Statements of Financial Condition                                        |  | 4 
|           |  | Consolidated Statements of Cash Flows                                                 |  | 5 
|           |  | Notes to Consolidated Financial Statements                                            |  | 6 
|           |  |                                                                                      
|Item 2.    |  | Managements Discussion and Analysis of Financial Condition and Results of Operations |  | 17
|           |  |                                                                                      
|Item 3.    |  | Quantitative and Qualitative Disclosures About Market Risk                            |  | 29
|           |  |                                                                                      
|Item 4.    |  | Controls and Procedures                                                               |  | 30
|           |  |                                                                                      
|PART II    |  | OTHER INFORMATION:                                                                    |  |   
|           |  |                                                                                      
|Item 1.    |  | Legal Proceedings                                                                     |  | 30
|           |  |                                                                                      
|Item 2.    |  | Changes in Securities and Use of Proceeds                                             |  | 31
|           |  |                                                                                      
|Item 3.    |  | Defaults Upon Senior Securities                                                       |  | 31
|           |  |                                                                                      
|Item 4.    |  | Submission of Matters to a Vote of Security Holders                                   |  | 31
|           |  |                                                                                      
|Item 5.    |  | Other Information                                                                     |  | 31
|           |  |                                                                                      
|Item 6.    |  | Exhibits                                                                              |  | 32
|           | 
|Signatures |  | 33                                                                                   



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##### Table of Contents

PART I.    FINANCIAL INFORMATION



Item 1.    Financial Statements



KNIGHT TRADING GROUP, INC.



CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)



|                                                                  |  |                                      |             |   |      |   |            
|----------------------------------------------------------------- |  | ------------------------------------ | ----------- | - | ---- | - | -----------
|                                                                  |  | For the three months ended March 31,
|                                                                  |  | 2005                                 |             |   | 2004
|REVENUES                                                          |  |                                      |             |   |      |   |            
|Net trading revenue                                               |  | $                                    | 37,421,828  |   |      | $ | 100,727,855
|Commissions and fees                                              |  |                                      | 70,116,011  |   |      |   | 76,637,524 
|Asset management fees                                             |  |                                      | 17,880,667  |   |      |   | 13,932,132 
|Interest and dividends, net                                       |  |                                      | 2,339,800   |   |      |   | 857,962    
|Investment income and other                                       |  |                                      | 9,798,564   |   |      |   | 6,163,997  
|                                                                  |  |                                      |             |   |      |   |            
|Total revenues                                                    |  |                                      | 137,556,870 |   |      |   | 198,319,470
|                                                                  |  |                                      |             |   |      |   |            
|EXPENSES                                                          |  |                                      |             |   |      |   |            
|Employee compensation and benefits                                |  |                                      | 56,857,441  |   |      |   | 65,103,791 
|Execution and clearance fees                                      |  |                                      | 23,546,783  |   |      |   | 37,762,298 
|Soft dollar and commission recapture expense                      |  |                                      | 15,484,575  |   |      |   | 15,775,915 
|Payments for order flow                                           |  |                                      | 7,404,075   |   |      |   | 13,018,439 
|Communications and data processing                                |  |                                      | 7,813,959   |   |      |   | 6,753,777  
|Depreciation and amortization                                     |  |                                      | 4,250,398   |   |      |   | 3,870,824  
|Occupancy and equipment rentals                                   |  |                                      | 3,996,041   |   |      |   | 4,435,070  
|Professional fees                                                 |  |                                      | 3,776,416   |   |      |   | 3,353,024  
|Business development                                              |  |                                      | 1,293,336   |   |      |   | 2,042,971  
|Other                                                             |  |                                      | 2,653,746   |   |      |   | 2,749,333  
|                                                                  |  |                                      |             |   |      |   |            
|Total expenses                                                    |  |                                      | 127,076,770 |   |      |   | 154,865,442
|                                                                  |  |                                      |             |   |      |   |            
|Income from continuing operations before income taxes             |  |                                      | 10,480,100  |   |      |   | 43,454,028 
|Income tax expense                                                |  |                                      | 4,355,145   |   |      |   | 17,507,342 
|                                                                  |  |                                      |             |   |      |   |            
|Net income from continuing operations                             |  |                                      | 6,124,955   |   |      |   | 25,946,686 
|(Loss) income from discontinued operations, net of tax            |  |                                      | (265,927    | ) |      |   | 5,867,771  
|                                                                  |  |                                      |             |   |      |   |            
|Net income                                                        |  | $                                    | 5,859,028   |   |      | $ | 31,814,457 
|                                                                  |  |                                      |             |   |      |   |            
|Basic earnings per share from continuing operations               |  | $                                    | 0.06        |   |      | $ | 0.23       
|                                                                  |  |                                      |             |   |      |   |            
|Diluted earnings per share from continuing operations             |  | $                                    | 0.05        |   |      | $ | 0.21       
|                                                                  |  |                                      |             |   |      |   |            
|Basic and diluted earnings per share from discontinued operations |  | $                                    |            |   |      | $ | 0.05       
|                                                                  |  |                                      |             |   |      |   |            
|Basic earnings per share                                          |  | $                                    | 0.05        |   |      | $ | 0.28       
|                                                                  |  |                                      |             |   |      |   |            
|Diluted earnings per share                                        |  | $                                    | 0.05        |   |      | $ | 0.26       
|                                                                  |  |                                      |             |   |      |   |            
|Shares used in computation of basic earnings per share            |  |                                      | 108,858,845 |   |      |   | 113,473,360
|                                                                  |  |                                      |             |   |      |   |            
|Shares used in computation of diluted earnings per share          |  |                                      | 112,409,158 |   |      |   | 121,988,464
|                                                                  |  |                                      |             |   |      |   |            



The accompanying notes
are an integral part of these condensed consolidated financial statements.



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KNIGHT TRADING GROUP, INC.



CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION

(Unaudited)



|                                                                                                                                                                                                                                           |  |                |               |   |                   |   |               |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ |  | -------------- | ------------- | - | ----------------- | - | ------------- | -
|                                                                                                                                                                                                                                           |  | March 31, 2005 |               |   | December 31, 2004 |  
|ASSETS                                                                                                                                                                                                                                     |  |                |               |   |                   |   |               |  
|Cash and cash equivalents                                                                                                                                                                                                                  |  | $              | 232,633,119   |   |                   | $ | 445,539,282   |  
|Securities owned, held at clearing brokers, at market value                                                                                                                                                                                |  |                | 279,860,044   |   |                   |   | 254,473,209   |  
|Receivable from brokers and dealers                                                                                                                                                                                                        |  |                | 443,635,264   |   |                   |   | 244,881,065   |  
|Investment in Deephaven sponsored funds                                                                                                                                                                                                    |  |                | 315,157,464   |   |                   |   | 215,329,959   |  
|Fixed assets and leasehold improvements at cost, less accumulated depreciation and amortization                                                                                                                                            |  |                | 62,953,966    |   |                   |   | 54,024,186    |  
|Strategic investments                                                                                                                                                                                                                      |  |                | 67,996,445    |   |                   |   | 29,266,796    |  
|Goodwill                                                                                                                                                                                                                                   |  |                | 19,182,248    |   |                   |   | 19,182,248    |  
|Intangible assets, less accumulated amortization                                                                                                                                                                                           |  |                | 11,391,111    |   |                   |   | 11,546,528    |  
|Other assets                                                                                                                                                                                                                               |  |                | 67,326,039    |   |                   |   | 117,305,578   |  
|                                                                                                                                                                                                                                           |  |                |               |   |                   |   |               |  
|Total assets                                                                                                                                                                                                                               |  | $              | 1,500,135,700 |   |                   | $ | 1,391,548,851 |  
|                                                                                                                                                                                                                                           |  |                |               |   |                   |   |               |  
|LIABILITIES & STOCKHOLDERS EQUITY                                                                                                                                                                                                         |  |                |               |   |                   |   |               |  
|Liabilities                                                                                                                                                                                                                                |  |                |               |   |                   |   |               |  
|Securities sold, not yet purchased, at market value                                                                                                                                                                                        |  | $              | 226,027,863   |   |                   | $ | 221,420,569   |  
|Payable to brokers and dealers                                                                                                                                                                                                             |  |                | 330,744,844   |   |                   |   | 88,480,788    |  
|Accrued compensation expense                                                                                                                                                                                                               |  |                | 49,226,779    |   |                   |   | 123,664,383   |  
|Accrued expenses and other liabilities                                                                                                                                                                                                     |  |                | 60,321,008    |   |                   |   | 103,485,220   |  
|                                                                                                                                                                                                                                           |  |                |               |   |                   |   |               |  
|Total liabilities                                                                                                                                                                                                                          |  |                | 666,320,494   |   |                   |   | 537,050,960   |  
|                                                                                                                                                                                                                                           |  |                |               |   |                   |   |               |  
|Stockholders equity                                                                                                                                                                                                                       |  |                |               |   |                   |   |               |  
|Class A Common Stock, $0.01 par value, 500,000,000 shares authorized; 138,119,863 shares issued and 110,741,677 shares outstanding at March
31, 2005 and 133,965,513 shares issued and 113,295,191 shares outstanding at December 31, 2004 |  |                | 1,381,199     |   |                   |   | 1,339,655     |  
|Additional paid-in-capital                                                                                                                                                                                                                 |  |                | 463,946,314   |   |                   |   | 427,451,712   |  
|Retained earnings                                                                                                                                                                                                                          |  |                | 596,307,811   |   |                   |   | 590,448,783   |  
|Treasury stock, at cost; 27,378,186 shares at March 31, 2005 and 20,670,322 shares at December 31, 2004                                                                                                                                    |  |                | (216,604,389  | ) |                   |   | (147,636,413  | )
|Accumulated other comprehensive income, net of tax                                                                                                                                                                                         |  |                | 23,886,641    |   |                   |   |              |  
|Unamortized stock-based compensation                                                                                                                                                                                                       |  |                | (35,102,370   | ) |                   |   | (17,105,846   | )
|                                                                                                                                                                                                                                           |  |                |               |   |                   |   |               |  
|Total stockholders equity                                                                                                                                                                                                                 |  |                | 833,815,206   |   |                   |   | 854,497,891   |  
|                                                                                                                                                                                                                                           |  |                |               |   |                   |   |               |  
|Total liabilities and stockholders equity                                                                                                                                                                                                 |  | $              | 1,500,135,700 |   |                   | $ | 1,391,548,851 |  
|                                                                                                                                                                                                                                           |  |                |               |   |                   |   |               |  



The accompanying notes
are an integral part of these condensed consolidated financial statements.



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KNIGHT TRADING GROUP, INC.



CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)



|                                                                                                                |  |                                      |              |   |      |   |              |  
|--------------------------------------------------------------------------------------------------------------- |  | ------------------------------------ | ------------ | - | ---- | - | ------------ | -
|                                                                                                                |  | For the three months ended March 31, |             
|                                                                                                                |  | 2005                                 |              |   | 2004 |  
|Cash flows from operating activities                                                                            |  |                                      |              |   |      |   |              |  
|Net income                                                                                                      |  | $                                    | 5,859,028    |   |      | $ | 31,814,457   |  
|(Loss) income from discontinued operations, net of tax                                                          |  |                                      | (265,927     | ) |      |   | 5,867,771    |  
|                                                                                                                |  |                                      |              |   |      |   |              |  
|Income from continuing operations, net of tax                                                                   |  |                                      | 6,124,955    |   |      |   | 25,946,686   |  
|Adjustments to reconcile income from continuing operations, net of tax to net cash used in operating activities |  |                                      |              |   |      |   |              |  
|Depreciation and amortization                                                                                   |  |                                      | 4,250,398    |   |      |   | 3,870,824    |  
|Income tax benefit on stock awards exercised                                                                    |  |                                      | 3,822,249    |   |      |   | 2,153,142    |  
|Stock based compensation                                                                                        |  |                                      | 2,946,743    |   |      |   | 1,902,778    |  
|Unrealized gain on strategic investments                                                                        |  |                                      | (280,432     | ) |      |   | (100,249     | )
|(Increase) decrease in operating assets                                                                         |  |                                      |              |   |      |   |              |  
|Securities owned                                                                                                |  |                                      | (25,386,835  | ) |      |   | (124,684,970 | )
|Receivable from brokers and dealers                                                                             |  |                                      | (198,754,199 | ) |      |   | (32,180,201  | )
|Receivable from discontinued operations                                                                         |  |                                      |             |   |      |   | (88,124,976  | )
|Other assets                                                                                                    |  |                                      | 33,519,266   |   |      |   | 747,165      |  
|Increase (decrease) in operating liabilities                                                                    |  |                                      |              |   |      |   |              |  
|Securities sold, not yet purchased                                                                              |  |                                      | 4,607,294    |   |      |   | 97,381,978   |  
|Payable to brokers and dealers                                                                                  |  |                                      | 242,264,056  |   |      |   | 72,573,444   |  
|Accrued compensation expense                                                                                    |  |                                      | (74,437,605  | ) |      |   | (33,821,578  | )
|Accrued expenses and other liabilities                                                                          |  |                                      | (43,152,175  | ) |      |   | 8,699,148    |  
|                                                                                                                |  |                                      |              |   |      |   |              |  
|Net cash used in operating activities                                                                           |  |                                      | (44,476,285  | ) |      |   | (65,636,809  | )
|                                                                                                                |  |                                      |              |   |      |   |              |  
|Cash flows from investing activities                                                                            |  |                                      |              |   |      |   |              |  
|Purchases of fixed assets and leasehold improvements                                                            |  |                                      | (13,036,788  | ) |      |   | (2,841,758   | )
|Investment in Deephaven sponsored funds                                                                         |  |                                      | (99,827,505  | ) |      |   | (29,830,576  | )
|Net proceeds from (purchases of) strategic investments                                                          |  |                                      | 1,939,166    |   |      |   | (4,481,860   | )
|                                                                                                                |  |                                      |              |   |      |   |              |  
|Net cash used in investing activities                                                                           |  |                                      | (110,925,127 | ) |      |   | (37,154,194  | )
|                                                                                                                |  |                                      |              |   |      |   |              |  
|Cash flows from financing activities                                                                            |  |                                      |              |   |      |   |              |  
|Stock options exercised                                                                                         |  |                                      | 11,729,152   |   |      |   | 4,837,123    |  
|Cost of common stock repurchased                                                                                |  |                                      | (68,967,976  | ) |      |   | (6,209,088   | )
|Purchase of shares from minority investors in Knight Roundtable Europe Limited                                  |  |                                      |             |   |      |   | (2,328,632   | )
|                                                                                                                |  |                                      |              |   |      |   |              |  
|Net cash used in financing activities                                                                           |  |                                      | (57,238,824  | ) |      |   | (3,700,597   | )
|                                                                                                                |  |                                      |              |   |      |   |              |  
|Decrease in cash and cash equivalents                                                                           |  |                                      | (212,640,236 | ) |      |   | (106,491,600 | )
|Net cash (used in) provided by discontinued operations                                                          |  |                                      | (265,927     | ) |      |   | 1,831,072    |  
|Cash and cash equivalents at beginning of the year                                                              |  |                                      | 445,539,282  |   |      |   | 249,997,693  |  
|                                                                                                                |  |                                      |              |   |      |   |              |  
|Cash and cash equivalents at end of the period                                                                  |  | $                                    | 232,633,119  |   |      | $ | 145,337,165  |  
|                                                                                                                |  |                                      |              |   |      |   |              |  
|Supplemental disclosure of cash flow information:                                                               |  |                                      |              |   |      |   |              |  
|Cash paid for interest                                                                                          |  | $                                    | 37,126       |   |      | $ | 67,800       |  
|                                                                                                                |  |                                      |              |   |      |   |              |  
|Cash paid for income taxes                                                                                      |  | $                                    | 45,295,349   |   |      | $ | 12,023,081   |  
|                                                                                                                |  |                                      |              |   |      |   |              |  



The accompanying notes
are an integral part of these condensed consolidated financial statements.



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KNIGHT TRADING GROUP, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



MARCH 31, 2005

(Unaudited)



1.    Organization and Description of the Business



Knight Trading Group, Inc. and its subsidiaries (the Company) have two operating business segments, Asset Management and Equity Markets,
and a Corporate segment. The Companys operating business segments from continuing operations comprise the following operating subsidiaries:



Asset Management



| |  |  | Deephaven Capital Management LLC (Deephaven) is the investment manager and sponsor of the Deephaven investment funds (the Deephaven Funds). Deephaven also
has a U.K. registered investment advisor subsidiary, which is regulated by the Financial Services Authority (FSA) in the U.K.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Equity Markets



| |  |  | Knight Equity Markets, L.P. (KEM) operates as a market maker in over-the-counter (OTC) equity securities, primarily those traded in the Nasdaq stock market
and on the OTC Bulletin Board (OTCBB). Additionally, in December 2003, KEM acquired the business of Donaldson & Co., Incorporated (Donaldson), a firm that offers soft dollar and commission recapture services. KEM is a
broker-dealer registered with the Securities and Exchange Commission (SEC) and is a member of the National Association of Securities Dealers (NASD), the National Stock Exchange and the Pacific Stock Exchange.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Knight Capital Markets LLC (KCM) operates as a market maker in the Nasdaq Intermarket, the over-the-counter market for New York Stock Exchange (NYSE) and American Stock Exchange (AMEX) listed
securities. KCM is a broker-dealer registered with the SEC and is a member of the NASD.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Knight Equity Markets International Limited (KEMIL) is a U.K. registered broker-dealer that provides execution services for European institutional and broker-dealer
clients in U.S. and European equities. KEMIL is regulated by the FSA and is a member of the London Stock Exchange.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



The Corporate segment includes all corporate overhead expenses and investment income earned on strategic investments and our corporate investment in the
Deephaven Funds. Corporate overhead expenses primarily consist of compensation for certain senior executives and other individuals employed at the corporate holding company, legal and other professional expenses related to corporate matters,
investor and public relations expenses and directors and officers insurance.



Discontinued Operations



The Company completed the sale of its Derivative Markets business to Citigroup Financial Products Inc. (Citigroup) for $237 million in cash as of the close of business on December 9, 2004. In accordance with generally accepted
accounting principles (GAAP), the results of the Derivative Markets segment, as well as the gain on the sale of this business, have been included within discontinued operations for all periods presented. The final purchase price was
subject to adjustment based on the final determination of the book value of the Derivative Markets business at the time the deal closed. The final determination of the book value was completed during the first quarter of 2005. For a further
discussion of the sale of the Companys Derivative Markets business and its associated accounting treatment, see Footnote 8 Discontinued Operations.



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2.    Significant Accounting Policies



Basis of consolidation and form of presentation



The accompanying unaudited consolidated financial statements include the
accounts of the Company and its subsidiaries and, in the opinion of management, reflect all adjustments, consisting only of normal recurring adjustments, necessary for a fair statement of the results for the interim period. All significant
intercompany transactions and balances within continuing operations have been eliminated. Certain footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to SEC rules
and regulations, although the Company believes that the disclosures are adequate to make the information presented not misleading. The nature of the Companys business is such that the results of an interim period are not necessarily indicative
of the results for the full year. These unaudited consolidated financial statements should be read in conjunction with the financial statements and notes thereto included in the Companys Annual Report on Form 10-K for the year ended December
31, 2004 as filed with the SEC.



Certain prior period amounts
have been reclassified to conform to the current period presentation.



Cash and cash equivalents



Cash and cash
equivalents include money market accounts, which are payable on demand, or short-term investments with an original maturity of less than 30 days. The carrying amount of such cash equivalents approximates their fair value due to the short-term nature
of these instruments.



Market making and sales activities



Securities owned and securities sold, not yet purchased,
which primarily consist of listed and OTC equities, are carried at market value and are recorded on a trade date basis. Net trading revenue (trading gains, net of trading losses) and commissions (which includes commission equivalents earned on
institutional client orders) and related expenses are also recorded on a trade date basis. As disclosed in the Companys Annual Report on Form 10-K, in 2004, the Company changed its classification of certain transaction-related regulatory fees.
These fees are now included within Execution and clearance fees. In prior periods, these fees were netted within Net trading revenue. The transaction-related regulatory fees were $4.7 million and $8.4 million for the three months ended March 31,
2005 and 2004, respectively. As a result of this change, prior period amounts have been reclassified to conform to current period presentation.



Payments for order flow represent payments to broker-dealer clients for directing their order executions to the Company. Soft dollar and commission
recapture expense represents payments to institutions in connection with soft dollar and commission recapture programs. The Companys clearing agreements call for payment or receipt of interest income, net of interest expense, for facilitating
the settlement and financing of securities transactions.



Asset management fees



The Company earns asset
management fees for sponsoring and managing the Deephaven Funds. Such fees are recorded monthly as earned and are calculated as a percentage of the Deephaven Funds monthly net assets, plus a percentage of a new high net asset value (the
Incentive Allocation Fee), as defined, for any six month period ended June 30th or December 31st. A new high net asset value is generally defined as the amount by which the net asset value of the Deephaven Funds exceeds the greater of
either the highest previous net asset value in the Deephaven Funds, or the net asset value at the time each investor made a purchase. The Incentive Allocation Fee may increase or decrease during the year based on the performance of the Deephaven
Funds. If Deephavens Market Neutral Fund, which contains the majority of assets under management, recognizes a loss in the second half of a calendar year, the Incentive Allocation Fee is recalculated on an annual rather than a semi-annual
basis. As such, the Incentive Allocation Fee may be negative for certain periods, but not lower than zero on a year-to-date basis.



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##### Table of Contents

Estimated fair value of financial instruments



The Companys securities owned and securities sold, not yet purchased
are carried at market value, which is estimated using market quotations available from major securities exchanges, clearing brokers and dealers. Management estimates that the fair values of other financial instruments recognized on the Consolidated
Statements of Financial Condition (including receivables, payables and accrued expenses) approximate their carrying values, as such financial instruments are short-term in nature, bear interest at current market rates or are subject to frequent
repricing.



Accounting for derivatives



The Companys derivative financial instruments, primarily comprised of
listed futures, are all held for trading purposes and are carried at market value.



Goodwill and intangible assets



The Company applies the provisions of Statement of Financial Accounting Standards (SFAS) No. 142 Goodwill and Other Intangible Assets,which requires that goodwill and intangible assets with an indefinite useful life no
longer be amortized, but instead, be tested for impairment annually or when an event occurs or circumstances change that signify the existence of impairment. Other intangible assets are amortized over their useful lives.



Strategic investments



Strategic investments include equity ownership interests of less than 20% in
financial services-related businesses and are accounted for under the equity method or at fair value. The equity method of accounting is used for investments in limited partnerships and limited liability corporations. Investments that are classified
as available-for-sale, which include the Companys investments in Nasdaq and the International Securities Exchange (ISE), are reported at fair value with unrealized gains and losses excluded from earnings and reported, net of
applicable taxes, in Accumulated other comprehensive income, net of tax within Stockholders Equity on the Consolidated Statements of Financial Condition. The fair value of investments for which a quoted market or dealer price is not available
for the size of our investment, is based on managements estimate. Among the factors considered by management in determining the fair value of investments are the cost of the investment, terms and liquidity, developments since the acquisition
of the investment, the sales price of recently issued securities, the financial condition and operating results of the issuer, earnings trends and consistency of operating cash flows, the long-term business potential of the issuer, the quoted market
price of securities with similar quality and yield that are publicly traded, and other factors generally pertinent to the valuation of investments. The fair value of these investments is subject to a high degree of volatility and may be susceptible
to significant fluctuations in the near term. The valuations of strategic investments are reviewed by management on an ongoing basis.



Treasury stock



The Company records its purchases of treasury stock at cost as a separate component of Stockholders equity. The Company obtains treasury stock
through purchases in the open market or through privately negotiated transactions.



Foreign currencies



The
functional currency of the Companys consolidated foreign subsidiaries is the U.S. dollar. Assets and liabilities in foreign currencies are translated into U.S. dollars using current exchange rates at the date of the Consolidated Statements of
Financial Condition. Revenues and expenses are translated at average rates during the periods.



8



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##### Table of Contents

Depreciation, amortization and occupancy



Fixed assets are being depreciated on a straight-line basis over their
estimated useful lives of three to seven years. Leasehold improvements are being amortized on a straight-line basis over the shorter of the life of the related office lease or the expected useful life of the assets. The Company records rent expense
on a straight-line basis over the lives of the leases. The Company capitalizes certain costs associated with the acquisition or development of internal-use software and amortizes the software over its estimated useful life of three years, commencing
at the time the software is placed in service.



Writedown of
fixed assets



Writedowns of fixed assets are recognized
when it is determined that the fixed assets are no longer actively used and are determined to be impaired. The amount of the impairment writedown is determined by the difference between the carrying amount and the fair value of the fixed asset. In
determining the impairment, an estimated fair value is obtained through research and inquiry of the market. Fixed assets are reviewed for impairment on a quarterly basis.



Lease loss accrual



It is the Companys policy to identify excess real estate capacity and where applicable, accrue for such future costs. In determining the accrual, a
nominal cash flow analysis is performed for lease losses initiated prior to December 31, 2002, the effective date of SFAS No. 146 Accounting for Costs Associated with Exit or Disposal Activities (which requires the accrual of future costs to
be made using a discounted cash flow analysis for lease losses initiated after such date), and costs related to the excess capacity are accrued.



Income taxes



The Company records deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the financial reporting
and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when such differences are expected to reverse. Net deferred tax assets and liabilities are included in Other assets and Accrued
expenses and other liabilities, respectively on the Consolidated Statements of Financial Condition.



Discontinued Operations



In accordance with SFAS No. 144,Accounting for the Disposal of Long-Lived Assets, the revenues and expenses associated with a separate business
segment or reporting unit that has been disposed of through closure or sale are included within (Loss) income from discontinued operations, net of tax, on the Consolidated Statements of Operations for all periods presented.



Stock-based compensation



The Company applies Accounting Principles Board Opinion No. 25,
Accounting for Stock Issued to Employees (APB 25) and related interpretations in accounting for its stock options plans. As options are granted at the then market value, no compensation expense has been recognized for the fair
values of the options granted to employees.



9



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##### Table of Contents

Had compensation expense for the Companys options been determined based on the fair value at the
grant dates in accordance with SFAS No. 123, Accounting for Stock-Based Compensation, the Companys net income and earnings per share amounts for the three months ended March 31, 2005 and 2004, respectively would have been as follows (in
millions, except per share data):



|                                                                                    |  |                             |      |   |      |   |      |  
|----------------------------------------------------------------------------------- |  | --------------------------- | ---- | - | ---- | - | ---- | -
|                                                                                    |  | Three monthsended March 31, |     
|                                                                                    |  | 2005                        |      |   | 2004 |  
|Net income, as reported                                                             |  | $                           | 5.9  |   |      | $ | 31.8 |  
|                                                                                    |  |                            
|Pro forma compensation expense determined under fair value based method, net of tax |  |                             | (1.4 | ) |      |   | (2.1 | )
|                                                                                    |  |                            
|Pro forma net income                                                                |  |                             | 4.5  |   |      |   | 29.8 |  
|                                                                                    |  |                            
|Basic earnings per share, as reported                                               |  |                             | 0.05 |   |      |   | 0.28 |  
|                                                                                    |  |                            
|Diluted earnings per share, as reported                                             |  |                             | 0.05 |   |      |   | 0.26 |  
|                                                                                    |  |                            
|Pro forma basic earnings per share                                                  |  |                             | 0.04 |   |      |   | 0.26 |  
|                                                                                    |  |                            
|Pro forma diluted earnings per share                                                |  |                             | 0.04 |   |      |   | 0.24 |  



The Company records
the fair market value of restricted stock awards on the date of grant as unamortized stock-based compensation in Stockholders equity and amortizes the balance to compensation expense ratably over the vesting period.



Other



The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results may
differ from those estimates.



3.    Securities Owned and
Securities Sold, Not Yet Purchased



Securities owned and
securities sold, not yet purchased are carried at market value and consist of the following (in millions):



|                                    |  |               |       |                  |   |      
|----------------------------------- |  | ------------- | ----- | ---------------- | - | -----
|                                    |  | March 31,2005 |       | December 31,2004
|Securities owned:                   |  |               |       |                  |   |      
|Equities                            |  | $             | 270.9 |                  | $ | 245.5
|U.S. government obligations         |  |               | 9.0   |                  |   | 9.0  
|                                    |  |               |       |                  |   |      
|                                    |  | $             | 279.9 |                  | $ | 254.5
|                                    |  |               |       |                  |   |      
|Securities sold, not yet purchased: |  |               |       |                  |   |      
|Equities                            |  | $             | 226.0 |                  | $ | 221.4
|                                    |  |               |       |                  |   |      
|                                    |  | $             | 226.0 |                  | $ | 221.4
|                                    |  |               |       |                  |   |      



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##### Table of Contents

4.    Receivable from and Payable to Brokers and Dealers



Amounts receivable from and payable to brokers and dealers consist of the
following (in millions):



|                             |  |               |       |                  |   |      
|---------------------------- |  | ------------- | ----- | ---------------- | - | -----
|                             |  | March 31,2005 |       | December 31,2004
|Receivable:                  |  |               |       |                  |   |      
|Clearing brokers             |  | $             | 375.4 |                  | $ | 141.0
|Securities failed to deliver |  |               | 45.2  |                  |   | 64.5 
|Securities borrowed          |  |               | 20.8  |                  |   | 35.0 
|Other                        |  |               | 2.2   |                  |   | 4.4  
|                             |  |               |       |                  |   |      
|                             |  | $             | 443.6 |                  | $ | 244.9
|                             |  |               |       |                  |   |      
|Payable:                     |  |               |       |                  |   |      
|Clearing brokers             |  | $             | 310.5 |                  | $ | 47.7 
|Securities failed to receive |  |               | 20.2  |                  |   | 40.7 
|Other                        |  |               | 0.0   |                  |   | 0.1  
|                             |  |               |       |                  |   |      
|                             |  | $             | 330.7 |                  | $ | 88.5 
|                             |  |               |       |                  |   |      



5.    Goodwill
and Intangible Assets



In June 2004, the Company tested
for the impairment of goodwill and intangible assets and concluded that there was no impairment. The Company plans on performing its annual test for impairment during the second quarter of 2005. The goodwill balance of $19.2 million at March 31,
2005 related to the Equity Markets segment. Goodwill is net of accumulated amortization of $21.9 million recorded through December 31, 2001, the effective date the Company adopted SFAS No. 142. In the first half of 2004, the Company acquired all of
the ownership interests of the minority owners of Knight Roundtable Europe Limited (KREL) (which is the Companys subsidiary that owns KEMIL) for $2.5 million, which was recorded as goodwill and is attributable to the Equity Markets
business segment.



At March 31, 2005, the Company had
intangible assets, net of accumulated amortization, of $11.4 million, all included within the Equity Markets business segment. Substantially all of the intangible assets, net of accumulated amortization, of $11.4 million, resulted from the purchase
of the business of Donaldson and primarily represent customer relationships. The carrying value of these intangible assets is being amortized over the remaining useful lives, which have been determined to range from five to thirty years.



In the first quarter of 2005, the Company recorded amortization expense
related to its intangible assets within its Equity Markets business segment of $155,000. The estimated amortization expense relating to the intangible assets for each of the next five years approximates $466,000 for the remainder of 2005, $620,000
per year from 2006 through 2008, and $560,000 in 2009.



The
chart below summarizes the activity of the Companys Goodwill and Intangible assets, net of accumulated amortization, for the three months ended March 31, 2004 and 2005, respectively (in millions).



|                                                   |  |                |      |                   |   |      |  
|-------------------------------------------------- |  | -------------- | ---- | ----------------- | - | ---- | -
|                                                   |  | Equity Markets |     
|                                                   |  | Goodwill       |      | Intangible Assets |  
|Balance at January 1, 2004                         |  | $              | 16.7 |                   | $ | 12.0 |  
|Purchase of shares from minority investors in KREL |  |                | 2.3  |                   |   |     |  
|Amortization expense                               |  |                |     |                   |   | (0.1 | )
|                                                   |  |                |      |                   |   |      |  
|Balance at March 31, 2004                          |  | $              | 19.0 |                   | $ | 11.9 |  
|                                                   |  |                |      |                   |   |      |  
|Balance at January 1, 2005                         |  | $              | 19.2 |                   | $ | 11.5 |  
|Amortization expense                               |  |                |     |                   |   | (0.2 | )
|                                                   |  |                |      |                   |   |      |  
|Balance at March 31, 2005                          |  | $              | 19.2 |                   | $ | 11.4 |  
|                                                   |  |                |      |                   |   |      |  



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##### Table of Contents

6.    Investment in Deephaven Sponsored Funds and Strategic Investments



The Companys wholly-owned subsidiary, Deephaven, is the investment
manager and sponsor of the Deephaven Funds, which engages in various trading strategies involving equities, debt instruments and derivatives. The underlying investments in the Deephaven Funds are carried at market value. Of the $3.5 billion of
assets under management in the Deephaven Funds as of March 31, 2005, the Company had a corporate investment of $315.2 million. On January 1, 2005, the Company invested an additional $100.0 million into the Deephaven Funds, which was redeemed on
April 1, 2005. Additionally, Other assets on the Consolidated Statements of Financial Condition at March 31, 2005 and December 31, 2004 included $22.5 million and $19.9 million, respectively, of investments in the Deephaven Funds related to employee
deferred compensation plans. In addition, certain officers, directors and employees of the Company had direct investments of approximately $4.4 million in the Deephaven Funds, in the aggregate, as of March 31, 2005.



Strategic investments, which primarily include the Companys investments
in the ISE and Nasdaq, are reviewed on an ongoing basis to ensure that the fair values of the investment have not been impaired. The Companys investments in the ISE and Nasdaq are classified as available-for-sale securities, and have an
aggregate fair value of $54.7 million as of March 31, 2005. On March 9, 2005, in conjunction with the ISEs initial public offering, the Company sold approximately 30% of its original equity ownership of the ISE. As a result of the transaction,
the Company recognized a pre-tax gain of $9.6 million. As of March 31, 2005, the Company owned 1.7 million shares of common stock of the ISE.



7.    Significant Clients



The Company considers significant clients to be clients who account for 10% or more of the total U.S. equity dollar value traded by the Company during the
period. One customer accounted for approximately 11.5% of the Companys U.S. equity dollar value traded during the three months ended March 31, 2005. Payments for order flow to this firm for U.S. equity order flow for the three months ended
March 31, 2005 amounted to $4.1 million.



The Companys
corporate investment in the Deephaven Funds of $315.2 million accounted for 9.1% of total assets under management as of March 31, 2005. On April 1, 2005, the Company redeemed $100.0 million of its corporate investment. One institutional investor
accounted for more than 10% of the Deephaven Funds assets under management, with 10.9% as of March 31, 2005.



8.    Discontinued Operations



Derivative Markets



The Company completed the sale of its Derivative Markets business to Citigroup for $237 million in cash as of the close of business on December 9, 2004.
The final purchase price was subject to adjustment based on the final determination of the book value of the Derivative Markets business at the time the deal closed. The final determination of book value occurred in the first quarter of 2005, at
which time the adjustment was recognized. The result of this adjustment and other expenses related to the sale resulted in a loss from discontinued operations, net of tax, of $266,000 in the first quarter 2005.



The decision to sell the Derivative Markets business was based on a review of
the overall options industry, the capital and risk required to maintain this business successfully and the business role in the Companys long-term strategy. In accordance with SFAS No. 144,Accounting for the Disposal of Long-Lived
Assets, the results of the Derivative Markets segment, the revenues and expenses associated with these businesses as well as all costs associated with the sale transaction have been included in (Loss) income from discontinued operations, net of
tax on the Consolidated Statements of Operations for all periods presented.



12



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##### Table of Contents

The revenues and results of operations of the discontinued operations for the three months ended March
31, 2005 and 2004 are summarized as follows (in millions):



|                                                       |  |                            |      |   |                |   |     
|------------------------------------------------------ |  | -------------------------- | ---- | - | -------------- | - | ----
|                                                       |  | For the three months ended
|                                                       |  | March 31, 2005             |      |   | March 31, 2004
|Revenues                                               |  | $                          |     |   |                | $ | 49.9
|                                                       |  |                            |      |   |                |   |     
|Pre-tax (loss) income from discontinued operations     |  |                            | (0.4 | ) |                |   | 9.9 
|Income tax (benefit) expense                           |  |                            | (0.2 | ) |                |   | 4.0 
|                                                       |  |                            |      |   |                |   |     
|(Loss) income from discontinued operations, net of tax |  | $                          | (0.3 | ) |                | $ | 5.9 
|                                                       |  |                            |      |   |                |   |     



9.    Commitments and Contingent Liabilities



In the ordinary course of business, the nature of the Companys business subjects it to claims, lawsuits, regulatory examinations and other proceedings. The results of these matters cannot be predicted with
certainty. There can be no assurance that these matters will not have a material adverse effect on the Companys results of operations in any future period and a material judgment could have a material adverse impact on the Companys
financial condition and results of operations. However, it is the opinion of management, after consultation with legal counsel that, based on information currently available, the ultimate outcome of these matters will not have a material adverse
impact on the business, financial condition or operating results of the Company although they might be material to the operating results for any particular period, depending, in part, upon operating results for that period.



The Company leases office space under noncancelable operating leases. The
office leases contain certain escalation clauses whereby the rental commitments may be increased if certain conditions are satisfied and specify yearly adjustments to the lease amounts based on annual adjustments to the Consumer Price Index. Rental
expense, from continuing operations, under the office leases was $2.6 million and $2.7 million for the three months ended March 31, 2005 and 2004, respectively.



The Company leases certain computer and other equipment under noncancelable operating leases. In addition, the Company has entered into guaranteed
employment contracts with certain of its employees. As of March 31, 2005, future minimum rental commitments under all noncancelable office, computer and equipment leases (Operating Leases), and obligations on clearing contracts and
guaranteed employment contracts longer than one year (Other Obligations) were as follows:



|                                      |  |                  |       |                   |   |       |  |   |      
|------------------------------------- |  | ---------------- | ----- | ----------------- | - | ----- |  | - | -----
|                                      |  | Operating Leases |       | Other Obligations |   | Total
|Nine months ending December 31, 2005  |  | $                | 10.2  |                   | $ |      |  | $ | 10.2 
|Year ending December 31, 2006         |  |                  | 9.9   |                   |   | 16.0  |  |   | 25.9 
|Year ending December 31, 2007         |  |                  | 9.4   |                   |   |      |  |   | 9.4  
|Year ending December 31, 2008         |  |                  | 9.2   |                   |   |      |  |   | 9.2  
|Year ending December 31, 2009         |  |                  | 8.9   |                   |   |      |  |   | 8.9  
|Thereafter through September 30, 2021 |  |                  | 109.0 |                   |   |      |  |   | 109.0
|                                      |  |                  |       |                   |   |       |  |   |      
|                                      |  | $                | 156.6 |                   | $ | 16.0  |  | $ | 172.6
|                                      |  |                  |       |                   |   |       |  |   |      



During the normal
course of business, the Company collateralizes certain leases, employment agreements or other contractual obligations through letters of credit or segregated funds held in escrow accounts. As of March 31, 2005, the Company has provided a $9.0
million letter of credit, collateralized by U.S. Treasury Bills, as a guarantee for one of the Companys lease obligations.



The Company entered into long-term employment contracts with the senior management team of Deephaven (the Deephaven managers). These
employment agreements, which became effective on January 1,



13



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##### Table of Contents

2004, are for three-year terms and include an option for renewal by the Deephaven managers through 2009 under certain circumstances. Pursuant to the terms of
a simultaneously executed option agreement between the Company and the Deephaven managers, in the event of a change of control of the Company during the initial three-year employment term, the Deephaven managers would have the option (the
Option) to obtain a 51% interest in Deephaven in exchange for the termination of their employment contracts and associated profit-sharing bonuses and other employee profit-sharing plans, which in the aggregate range from 42% to 50% of
the pre-tax, pre-profit sharing profits of Deephaven during the term of the agreements, subject to meeting certain annual guaranteed amounts. If a change of control of the Company were to occur, and if the Deephaven managers exercised the Option,
the Company would retain a 49% interest in Deephaven. In addition, during the life of the Option, the agreements provide that the Company may not sell Deephaven without the approval of the Deephaven managers.



10.    Comprehensive Income



Comprehensive income includes net income and changes in equity except those
resulting from investments by, or distributions to, stockholders. Comprehensive income is as follows:



|                                                                |  |                              |      |      |   |     
|--------------------------------------------------------------- |  | ---------------------------- | ---- | ---- | - | ----
|                                                                |  | Three months ended March 31,
|                                                                |  | 2005                         |      | 2004
|Net income                                                      |  | $                            | 5.9  |      | $ | 31.8
|Other comprehensive income, net of tax:                         |  |                              |      |      |   |     
|Net unrealized gain on investment securities available-for-sale |  |                              | 23.9 |      |   |    
|                                                                |  |                              |      |      |   |     
|Total comprehensive income, net of tax                          |  | $                            | 29.8 |      | $ | 31.8
|                                                                |  |                              |      |      |   |     



Other comprehensive
income, net of tax represents net unrealized gains on the Companys strategic investments in the ISE and Nasdaq.



11.    Earnings per Share



Basic earnings per common share (EPS) has been calculated by dividing net income by the weighted average shares of Class A Common Stock
outstanding during each respective period. Diluted EPS reflects the potential reduction in EPS using the treasury stock method to reflect the impact of common stock equivalents if stock awards such as stock options and restricted stock were
exercised or converted into Class A Common Stock.



The
following is a reconciliation of the numerators and denominators of the basic and diluted earnings per share computations for the three months ended March 31, 2005 and 2004 (in millions, except for share and per share data):



|                                                   |  |                                      |     |                     |   |                       |  |                     |      |  |   |            
|-------------------------------------------------- |  | ------------------------------------ | --- | ------------------- | - | --------------------- |  | ------------------- | ---- |  | - | -----------
|                                                   |  | For the three months ended March 31,
|                                                   |  | 2005                                 |     | 2004               
|                                                   |  | Numerator /net income                |     | Denominator /shares |   | Numerator /net income |  | Denominator /shares
|Net income and shares used in basic calculations   |  | $                                    | 5.9 |                     |   | 108,858,845           |  | $                   | 31.8 |  |   | 113,473,360
|Effect of dilutive stock based awards              |  |                                      |    |                     |   | 3,550,313             |  |                     |     |  |   | 8,515,104  
|                                                   |  |                                      |     |                     |   |                       |  |                     |      |  |   |            
|Net income and shares used in diluted calculations |  | $                                    | 5.9 |                     |   | 112,409,158           |  | $                   | 31.8 |  |   | 121,988,464
|                                                   |  |                                      |     |                     |   |                       |  |                     |      |  |   |            
|Basic earnings per share                           |  |                                      |     |                     | $ | 0.05                  |  |                     |      |  | $ | 0.28       
|                                                   |  |                                      |     |                     |   |                       |  |                     |      |  |   |            
|Diluted earnings per share                         |  |                                      |     |                     | $ | 0.05                  |  |                     |      |  | $ | 0.26       
|                                                   |  |                                      |     |                     |   |                       |  |                     |      |  |   |            



14



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12.    Stock-Based Compensation



The Company has established the Knight Trading Group, Inc. 1998 Long Term Incentive Plan, the Knight Trading Group, Inc.
1998 Nonemployee Director Stock Option Plan and the Knight Trading Group, Inc. 2003 Equity Incentive Plan (collectively, the Plans). The purpose of the Plans is to provide long-term incentive compensation to employees and directors of
the Company. The Plans are administered by the Compensation Committee of the Companys Board of Directors, and allow for the grant of options, restricted stock and restricted stock units (collectively, the awards), as defined by the
Plans. In addition, the Plans limit the number of options or shares that may be granted to a single individual and the Plans also limit the number of shares of restricted stock that may be awarded.



The Companys policy is to grant options for the purchase of shares of
Class A Common Stock at not less than market value, which the Plans define as the average of the high and low sales prices on the date prior to the grant date. Options generally vest over a three or four-year period and expire on the fifth or tenth
anniversary of the grant date, pursuant to the terms of the agreements. Restricted stock awards generally vest over three years. The Company has the right to fully vest employees in their awards upon retirement and in certain other circumstances.



The Company granted 2,162,044 restricted shares under the
Plans during the first quarter of 2005 as stock-based compensation. At March 31, 2005, the Company had 3,977,274 restricted shares outstanding, in aggregate, both under and outside of the Plans. The Company recognizes compensation expense for the
fair values of the restricted shares of Class A Common Stock granted to employees over the vesting period. For the three months ended March 31, 2005 and 2004, the Company recorded compensation expense related to its continuing operations for the
fair values of the restricted shares of Class A Common Stock granted to employees of $2.9 million and $1.9 million, respectively, all of which has been included in Employee compensation and benefits in the Consolidated Statements of Operations.



13.    Income Taxes



The Company and its subsidiaries file a consolidated federal income tax
return as well as combined state income tax returns in certain jurisdictions. In other jurisdictions, the Company and its subsidiaries file separate company state income tax returns.



The following table reconciles the provision to the U.S. federal statutory income tax rate:



|                                                                               |  |                                     |   |  |      |  
|------------------------------------------------------------------------------ |  | ----------------------------------- | - |  | ---- | -
|                                                                               |  | For the three monthsended March 31, |  
|                                                                               |  | 2005                                |   |  | 2004 |  
|Income tax expense at the U.S. federal statutory rate                          |  | 35.0                                | % |  | 35.0 | %
|U.S. state and local income tax expense, net of U.S. federal income tax effect |  | 5.5                                 | % |  | 4.8  | %
|Other, net                                                                     |  | 1.1                                 | % |  | 0.5  | %
|                                                                               |  |                                     |   |  |      |  
|Income tax expense                                                             |  | 41.6                                | % |  | 40.3 | %
|                                                                               |  |                                     |   |  |      |  



14.    Business
Segments



The Company currently has two operating business
segments in continuing operations, Equity Markets and Asset Management, and a Corporate segment. The Equity Markets segment primarily represents market-making in U.S. equities. The Asset Management segment consists of investment management and
sponsorship of the Deephaven Funds. The Corporate segment includes all corporate overhead expenses and investment income earned on strategic investments and the Companys corporate investment in the Deephaven Funds. Corporate



15



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##### Table of Contents

overhead expenses, which primarily consist of compensation for certain senior executives and other individuals employed at the corporate holding company,
legal and other professional expenses relating to corporate matters, investor and public relations expenses and directors and officers insurance.



In 2004, the Company sold one of its business segments, Derivative Markets. The revenues and expenses associated with Derivative Markets have been
included within (Loss) income from discontinued operations, net of tax on the Consolidated Statements of Operations for all periods presented. For a discussion of discontinued operations, see Footnote 8, Discontinued Operations.



The Companys revenues, (loss) income from continuing
operations before income taxes and total assets by segment are summarized below (amounts in millions).



|                                                             |  |               |         |   |                 |   |           |  |   |                   |   |  |   |        
|------------------------------------------------------------ |  | ------------- | ------- | - | --------------- | - | --------- |  | - | ----------------- | - |  | - | -------
|                                                             |  | EquityMarkets |         |   | AssetManagement |   | Corporate |  |   | ConsolidatedTotal
|For the three months ended March 31, 2005:                   |  |               |         |   |                 |   |           |  |   |                   |   |  |   |        
|Revenues                                                     |  | $             | 108.0   |   |                 | $ | 18.1      |  | $ | 11.5              |   |  | $ | 137.6  
|(Loss) income from continuing operations before income taxes |  |               | (0.5    | ) |                 |   | 5.1       |  |   | 5.9               |   |  |   | 10.5   
|Total assets                                                 |  |               | 1,009.4 |   |                 |   | 45.2      |  |   | 445.5             |   |  |   | 1,500.1
|                                                             |  |               |         |  
|For the three months ended March 31, 2004:                   |  |               |         |   |                 |   |           |  |   |                   |   |  |   |        
|Revenues                                                     |  | $             | 177.9   |   |                 | $ | 14.0      |  | $ | 6.4               |   |  | $ | 198.3  
|Income (loss) from continuing operations before income taxes |  |               | 40.3    |   |                 |   | 5.8       |  |   | (2.6              | ) |  |   | 43.5   
|Total assets1                                                |  |               | 869.4   |   |                 |   | 24.0      |  |   | 344.8             |   |  |   | 1,238.2

---

|1 | - Total assets at March 31, 2004 do not include Assets within discontinued operations of $3.3 billion.
|- | ------------------------------------------------------------------------------------------------------



15.    Subsequent Events



In April 2005, the Company announced that it had reached an agreement to
acquire, for cash, the business of Direct Trading Institutional, Inc., a privately held firm specializing in providing institutions with direct market access trading through an advanced electronic platform. Additionally, in May 2005, the Company
announced that it had reached an agreement to acquire, for cash, the business of the ATTAIN ECN, an alternative trading system that operates an electronic communications network (ECN) for the trading of Nasdaq securities. The consummation of each of
these transactions is subject to regulatory approval and the satisfaction of certain other customary conditions.



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Item 2.    Managements Discussion and Analysis of Financial Condition and Results of Operations



The following discussion of our results of operations should be read in conjunction with our consolidated financial statements and notes thereto included
in our Annual Report on Form 10-K for the year ended December 31, 2004 as filed with the Securities and Exchange Commission (SEC). This discussion contains forward-looking statements that involve risks and uncertainties, including those
discussed in our Form 10-K. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of certain factors, including, but not limited to, those set forth elsewhere in this document and in our Form
10-K.



Certain statements contained in this Quarterly Report on
Form 10-Q, including without limitation, those under Managements Discussion and Analysis of Financial Condition and Results of Operations herein (MD&A), Quantitative and Qualitative Disclosures About Market
Risk in Part I, Item 3, and Legal Proceedings in Part II, Item 1, and the documents incorporated by reference, may constitute forward-looking statements. These forward-looking statements are not historical facts, and are based on
current expectations, estimates and projections about the Companys industry, managements beliefs and certain assumptions made by management, many of which, by their nature, are inherently uncertain and beyond our control. Accordingly,
readers are cautioned that any such forward-looking statements are not guarantees of future performance and are subject to certain risks, uncertainties and assumptions that are difficult to predict including, without limitation, risks associated
with the costs and integration, performance and operation of the businesses being acquired by the Company. Since such statements involve risks and uncertainties, the actual results and performance of the Company may turn out to be materially
different from the results expressed or implied by such forward-looking statements. Given these uncertainties, readers are cautioned not to place undue reliance on such forward-looking statements. Unless otherwise required by law, the Company also
disclaims any obligation to update its view of any such risks or uncertainties or to announce publicly the result of any revisions to the forward looking statements made in this report. Readers should carefully review the risks and uncertainties
under Certain Factors Affecting Results of Operations within MD&A herein, Risks Affecting our Business in the Companys Annual Report on Form 10-K, and those described in other reports or documents the Company files
from time to time with the SEC. This discussion should be read in conjunction with the Companys consolidated financial statements and the notes thereto contained in this report.



Executive Overview



The Company currently has two operating business segments, Asset Management and Equity Markets, and a Corporate segment.



| |  |  | Asset ManagementWe operate an asset management business for institutions and high-net-worth individuals. Assets under management were $3.5 billion as of March 31, 2005,
up $1.3 billion from the $2.2 billion of assets under management as of March 31, 2004.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Equity MarketsWe are a leading execution specialist providing comprehensive trade execution services to institutional and broker-dealer clients, offering capital
commitment and access to a deep pool of liquidity across the depth and breadth of the U.S. equity markets. As announced in April 2005, the Company reorganized its Equity Markets business segment into three different business groups: Broker-Dealer,
Electronic Services and Institutional. The reorganization will allow the Company to better focus on and improve the service to the different client groups of the Equity Markets segment.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



The Companys Corporate segment includes all corporate overhead expenses
and investment income earned on strategic investments and our corporate investment in funds managed by the Asset Management segment (the Deephaven Funds). Corporate overhead expenses primarily consist of compensation for certain senior
executives and other individuals employed at the corporate holding company, legal and other professional expenses related to corporate matters, investor and public relations expenses and directors and officers insurance.



In the fourth quarter of 2004, the Company completed the sale of one of its
business segments, Derivative Markets, to Citigroup Financial Products, Inc. (Citigroup). In accordance with generally accepted accounting



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principles (GAAP), the results of this business segment have been included within discontinued operations for all periods presented. The final
purchase price was subject to adjustment based on the final determination of the book value of the Derivative Markets business at the time the deal closed. The results of this adjustment and other expenses related to the sale is included in Loss
from discontinued operations, net of tax on the Consolidated Statements of Operations included in Part I, Item 1 Financial Statements of this document. For a more detailed discussion of the sale of the Companys Derivative Markets
business, please see Footnote 8 Discontinued Operations also included in Part I, Item 1 Financial Statements of this document.



The following table sets forth the revenues and expenses and (loss) income from continuing operations before income taxes (Pre-Tax Earnings)
of our business segments and on a consolidated basis (in millions):



|                 |  |                                     |       |   |      |   |       |  
|---------------- |  | ----------------------------------- | ----- | - | ---- | - | ----- | -
|                 |  | For the three months endedMarch 31, |      
|                 |  | 2005                                |       |   | 2004 |  
|Equity Markets   |  |                                     |       |   |      |   |       |  
|Revenues         |  | $                                   | 108.0 |   |      | $ | 177.9 |  
|Expenses         |  |                                     | 108.5 |   |      |   | 137.6 |  
|                 |  |                                     |       |   |      |   |       |  
|Pre-Tax Earnings |  |                                     | (0.5  | ) |      |   | 40.3  |  
|                 |  |                                     |       |   |      |   |       |  
|Asset Management |  |                                     |       |   |      |   |       |  
|Revenues         |  |                                     | 18.1  |   |      |   | 14.0  |  
|Expenses         |  |                                     | 13.0  |   |      |   | 8.2   |  
|                 |  |                                     |       |   |      |   |       |  
|Pre-Tax Earnings |  |                                     | 5.1   |   |      |   | 5.8   |  
|                 |  |                                     |       |   |      |   |       |  
|Corporate        |  |                                     |       |   |      |   |       |  
|Revenues         |  |                                     | 11.5  |   |      |   | 6.4   |  
|Expenses         |  |                                     | 5.7   |   |      |   | 9.0   |  
|                 |  |                                     |       |   |      |   |       |  
|Pre-Tax Earnings |  |                                     | 5.9   |   |      |   | (2.6  | )
|                 |  |                                     |       |   |      |   |       |  
|Consolidated     |  |                                     |       |   |      |   |       |  
|Revenues         |  |                                     | 137.6 |   |      |   | 198.3 |  
|Expenses         |  |                                     | 127.1 |   |      |   | 154.8 |  
|                 |  |                                     |       |   |      |   |       |  
|Pre-Tax Earnings |  | $                                   | 10.5  |   |      | $ | 43.5  |  
|                 |  |                                     |       |   |      |   |       |  



Total revenues from
continuing operations for the three months ended March 31, 2005 decreased 30.6% from the comparable period in 2004, while expenses from continuing operations decreased 17.9%. Pre-Tax Earnings from continuing operations decreased to $10.5 million for
the three months ended March 31, 2005, from $43.5 million in the comparable period in 2004. Pre-Tax Earnings for the three months ended March 31, 2005 in our Asset Management business segment was down slightly from the comparable period in 2004,
while the Pre-Tax Earnings from our Equity Markets business segment decreased more significantly. Our Asset Management business segment was impacted by the increase in the percentage payout for profitability-based bonuses for the senior management
team at Deephaven and lower fund returns offset, in part, by the growth in assets under management. Our Equity Markets business segment was affected by greater competition for broker-dealer order client order flow, reduced revenue capture statistics
and losses incurred from our London sales office. The results from our Corporate segment were positively impacted by the gain on the sale of a portion of our investment in the International Securities Exchange (ISE) offset, in part, by
lower returns on our corporate investment in the Deephaven Funds.



Certain Factors Affecting Results of Operations



We have experienced, and expect to continue to experience, significant fluctuations in operating results due to a variety of factors, including, but not limited to, introductions or enhancements to market-making services by



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us or our competitors; the value of our securities positions and our ability to manage the risks attendant thereto; the equity market volumes; the dollar
value of securities traded; volatility in the securities markets; our market share with institutional and broker-dealer clients; the performance of our international operations; our ability to manage personnel, overhead and other expenses, including
our occupancy expenses under our office leases and legal fees related to our legal proceedings; the strength of our client relationships; the amount of, and volatility in, the results of our quantitative market-making and program trading portfolios;
changes in payments for order flow and clearing costs; the addition or loss of executive management and asset management, equity sales and trading and technology professionals; legislative, legal and regulatory changes; legal and regulatory matters;
geopolitical risk; the amount and timing of capital expenditures and divestitures; the incurrence of costs associated with acquisitions and dispositions; the integration, performance and operation of acquired businesses; investor sentiment; the
level of assets under management and fund returns; technological changes and events; seasonality; competition and market and economic conditions. Such factors may also have an impact on our ability to achieve our strategic objectives, including,
without limitation, increases in our market share and revenue capture in our Equity Markets segment and increases in our fund returns and assets under management in our Asset Management segment. If demand for our services declines in either of our
business segments due to any of the above factors, and we are unable to adjust our cost structure on a timely basis, our operating results and strategic objectives could be materially and adversely affected.



As a result of the foregoing factors, period-to-period comparisons of our
revenues and operating results are not necessarily meaningful and such comparisons cannot be relied upon as indicators of future performance. There also can be no assurance that we will be able to return to the rates of revenue growth that we have
experienced in the past or that we will be able to improve our operating results.



Trends



We believe that our continuing
operations are currently impacted by the following trends that may affect our financial condition and results of operations.



| |  |  | Over the past three years, the effects of market structure changes, competition and market conditions have resulted in a decline in revenue capture per U.S. equity dollar value
traded in our Equity Markets operations.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Retail broker-dealer participation in the equity markets has fluctuated over the past few years due to investor sentiment, market conditions and a variety of other factors. Retail
transaction volumes may not be sustainable and are not predictable.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Broker-dealer clients continue to focus on statistics measuring the quality of equity executions (including speed of executions and price improvement). In an effort to improve the
quality of their executions as well as increase efficiencies, market makers have increased the level of automation within their operations. The greater focus on execution quality has resulted in greater competition in the marketplace, which has
negatively impacted the revenue capture metrics of the Company and other market-making firms.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Market structure changes, competition and market conditions have triggered an industry shift toward market makers charging explicit commissions or commission equivalents to
institutional clients for executions in OTC securities. For the majority of our institutional client orders, we currently charge an explicit fee in the form of commissions or commission equivalents. In addition, institutional commission rates have
fallen in the past few years, and this may continue in the future.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Due to regulatory scrutiny over the past two years relating to equity sell-side research and the continued focus by investors on execution quality and overall transaction costs,
more institutional clients allocate commissions to broker-dealers based on the quality of executions. In the past, institutional equity commissions were primarily allocated to broker-dealers in exchange for either research or soft dollar and
commission recapture programs.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Market structure changes, competition and market conditions have also resulted in the recent announcement of two significant mergers amongst U.S. market centers. This consolidation
may result in greater competition in the future.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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| |  |  | There has been increased scrutiny of market makers, hedge funds and soft dollar practices by the regulatory and legislative authorities, including a recently passed SEC regulation
related to the registration of hedge funds. New legislation or modifications to existing regulations and rules could occur in the future.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | There has been a growing trend among institutions to allocate more of their assets to hedge fund investments. This has influenced the growth in the hedge fund industry and may
result in greater competition in the future.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Income
Statement Items



The following section briefly
describes the key components of, and drivers to, our significant revenues and expenses from continuing operations.



Revenues



Our revenues consist principally of Net trading revenue and Commissions and fees from U.S. securities trading and market-making activities from Equity
Markets. These revenues are primarily affected by changes in the amount and mix of U.S. equity trade and share volumes, our revenue capture, dollar value of equities traded, our ability to derive trading gains by taking proprietary positions,
changes in our execution standards, volatility in the marketplace, industry commission levels, our mix of broker-dealer and institutional clients, and regulatory changes and evolving industry customs and practices.



Trading profits and losses on principal transactions are included within Net
trading revenue. Revenues on transactions for which we charge explicit commissions or commission equivalents are included within Commissions and fees. For the majority of our institutional client orders, we currently charge an explicit fee in the
form of commissions or commission-equivalents. In the fourth quarter of 2004, we changed the classification of certain transaction-related regulatory fees. These fees are now included within Execution and clearance fees. In prior periods, these fees
were netted within Net trading revenue. This change in classification had no impact on the calculation of the average revenue capture per dollar value traded metric, as the expense is still included within the calculation. We believe this change is
consistent with industry practice. As a result, prior period amounts have been reclassified to conform to current period presentation. The transaction-related regulatory fees were $4.7 million and $8.4 million for the three months ended March 31,
2005 and 2004, respectively.



We also receive fees for
providing certain information to market data providers and for directing trades to certain destinations for execution. Commissions and fees are primarily affected by changes in our equity transaction volumes with institutional clients, changes in
commission rates, the growth of our soft dollar and commission recapture activity as well as by changes in fees earned for directing trades to certain destinations for execution.



Asset management fees represent fees earned by Deephaven Capital Management LLC (Deephaven) for sponsoring and
managing the Deephaven Funds. These fees consist of annual management fees, calculated as fixed percentages of assets under management, and incentive fees, which, in general, are calculated as a percentage of the funds annual returns. Such
fees are primarily affected by the rates of return earned on the Deephaven Funds and changes in the amount of assets under management.



We earn interest income from our cash held at banks and cash held in trading accounts at clearing brokers. The Companys clearing agreements call for
payment or receipt of interest income, net of transaction-related interest charged by clearing brokers for facilitating the settlement and financing of securities transactions. Net interest is primarily affected by interest rates, the changes in
cash balances held at banks and clearing brokers and our level of securities positions in which we are long compared to our securities positions in which we are short.



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Investment income and other income primarily represents income earned, net of losses, related to our
corporate investment in the Deephaven Funds and our strategic investments. Such income is primarily affected by the rates of return earned by the Deephaven Funds as well as the performance and activity of our strategic investments.



Expenses



Our operating expenses largely consist of Employee compensation and
benefits, Execution and clearance fees, Soft dollar and commission recapture payments and Payments for order flow. Employee compensation and benefits expense fluctuates, for the most part, based on changes in our revenues, our profitability and the
number of employees. Execution and clearance fees primarily fluctuate based on changes in equity trade and share volume, clearance fees charged by clearing brokers and fees paid to access ECNs, exchanges and certain regulatory bodies. Soft dollar
and commission recapture payments fluctuate based on U.S. equity share volume executed on behalf of institutions. Payments for order flow fluctuate based on U.S. equity share volume, profitability, the mix of market orders and limit orders, the mix
of orders received from broker-dealers and institutions who accept payments for order flow and changes in our payment for order flow policy.



Employee compensation and benefits expense primarily consists of salaries and wages paid to all employees and profitability-based compensation, which
includes compensation paid to sales personnel and incentive compensation paid to all other employees based on our overall profitability. Compensation for employees engaged in sales activities is determined primarily based on a percentage of their
gross revenues net of certain expenses including soft dollar and commission recapture expenses, execution and clearance costs and overhead allocations. The majority of compensation in Asset Management is determined by a profitability-based formula,
subject to certain minimum guaranteed payments.



Execution and
clearance fees primarily represent clearance fees paid to clearing brokers for equities transactions, transaction fees paid to Nasdaq and other regional exchanges and regulatory bodies and execution fees paid to third parties, primarily for
executing trades in listed securities on the New York Stock Exchange (NYSE) and American Stock Exchange (AMEX), and for executing orders through ECNs.



Soft dollar and commission recapture expense represent payments to institutions in connection with our soft dollar and
commission recapture programs.



Payments for order flow
represent payments to broker-dealer clients, in the normal course of business, for directing to us their order flow in U.S. equities. Payments for order flow fluctuate as we modify our payment rates and as the percentage of clients whose policy is
not to accept payments for order flow varies.



Three Months Ended March
31, 2005 and 2004



Continuing Operations



Revenues



|                                                                  |  |                                      |         |   |      |   |         |        |  |   |             |   |  |       |  
|----------------------------------------------------------------- |  | ------------------------------------ | ------- | - | ---- | - | ------- | ------ |  | - | ----------- | - |  | ----- | -
|                                                                  |  | For the three months ended March 31, |        
|                                                                  |  | 2005                                 |         |   | 2004 |   |         | Change |  |   | % of Change |  
|Total Revenues from Asset Management                              |  | $                                    | 18.1    |   |      | $ | 14.0    |        |  | $ | 4.1         |   |  | 29.1  | %
|                                                                  |  |                                      |         |   |      |   |         |        |  |   |             |   |  |       |  
|Average month-end balance of assets under management ($ millions) |  |                                      | 3,478.9 |   |      |   | 1,965.1 |        |  |   | 1,513.7     |   |  | 77.0  | %
|Quarterly fund return to investors*                               |  |                                      | 0.8     | % |      |   | 2.0     | %      |  |   | -1.2        | % |  | -59.0 | %

---

|* | Quarterly fund return represents the blended quarterly return across all assets under management in the Deephaven Funds
|- | -----------------------------------------------------------------------------------------------------------------------



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Total revenues from the Asset Management business segment, which primarily consists of Asset management
fees, increased 29.1% to $18.1 million for the three months ended March 31, 2005, from $14.0 million for the comparable period in 2003. The increase is primarily due to higher management fees as a result of the growth in assets under management. The
average month-end balance of assets under management increased to $3.5 billion for the three months ended March 31, 2005, from $2.0 billion for the comparable period in 2004. The increase was offset, slightly, by the decrease in fund returns. The
blended quarterly fund return across all assets under management for the three months ended March 31 2005 was 0.8%, down from 2.0% for the comparable period in 2004.



|                                                                  |  |                                      |       |      |   |       |        |  |   |             |   |  |   |      |  
|----------------------------------------------------------------- |  | ------------------------------------ | ----- | ---- | - | ----- | ------ |  | - | ----------- | - |  | - | ---- | -
|                                                                  |  | For the three months ended March 31, |      
|                                                                  |  | 2005                                 |       | 2004 |   |       | Change |  |   | % of Change |  
|Net trading revenue (millions)                                    |  | $                                    | 37.4  |      | $ | 100.7 |        |  | $ | (63.3       | ) |  |  | 62.8 | %
|Commissions and fees (millions)                                   |  |                                      | 70.1  |      |   | 76.6  |        |  |   | (6.5        | ) |  |  | 8.5  | %
|Interest and dividends, net (millions)                            |  |                                      | 0.5   |      |   | 0.7   |        |  |   | (0.2        | ) |  |  | 27.7 | %
|Investment income and other (millions)                            |  |                                      |      |      |   | (0.1  | )      |  |   | 0.1         |   |  |   | 66.1 | %
|                                                                  |  |                                      |       |      |   |       |        |  |   |             |   |  |   |      |  
|Total Revenues from Equity Markets (millions)                     |  | $                                    | 108.0 |      | $ | 177.9 |        |  | $ | (69.9       | ) |  |  | 39.3 | %
|                                                                  |  |                                      |       |      |   |       |        |  |   |             |   |  |   |      |  
|U.S equity dollar value traded ($ billions)                       |  |                                      | 470.7 |      |   | 504.6 |        |  |   | (33.9       | ) |  |  | 6.7  | %
|U.S. equity trades executed (millions)                            |  |                                      | 52.8  |      |   | 59.6  |        |  |   | (6.7        | ) |  |  | 11.3 | %
|Nasdaq and Listed equity shares traded (billions)                 |  |                                      | 29.1  |      |   | 40.9  |        |  |   | (11.8       | ) |  |  | 28.9 | %
|OTC Bulletin Board and Pink Sheet shares traded (billions)        |  |                                      | 295.8 |      |   | 320.6 |        |  |   | (24.8       | ) |  |  | 7.7  | %
|Average revenue capture per U.S. equity dollar value traded (bps) |  |                                      | 1.7   |      |   | 2.8   |        |  |   | (1.1        | ) |  |  | 39.6 | %



Total revenues from
our Equity Markets business segment, which primarily comprises Net trading revenue and Commissions and fees from our domestic businesses, decreased 39.3% to $108.0 million for the three months ended March 31, 2005, from $177.9 million for the
comparable period in 2003. The decrease in revenues was primarily the result of lower volumes and lower revenue capture per U.S. equity dollar value traded. U.S. equity dollar value traded decreased 6.7% in the three months ended March 31, 2005 from
the comparable period in 2004.



Average revenue capture per
U.S. equity dollar value traded was 1.7 basis points (bps) for the first quarter of 2005, down 39.6% from 2.8 bps in the first quarter of 2004. We attribute the decrease in average revenue capture per U.S. dollar value traded to the
difficult market conditions experienced in the first quarter of 2005 as well as an increase in competition over the past year. Average revenue capture per U.S. equity dollar value traded is calculated as the total of net trading revenues less
certain transaction-related regulatory fees (included in Execution and clearance fees) and institutional commissions and commission equivalents (included in Commissions and fees), (collectively, Core Equity Revenues) divided by the total
dollar value of the related equity transactions. Core Equity Revenues were $80.7 million and $143.2 million for the three months ended March 31, 2005 and 2004, respectively.



|                                                                       |  |                                      |       |      |   |        |  |             |      |  |      |  
|---------------------------------------------------------------------- |  | ------------------------------------ | ----- | ---- | - | ------ |  | ----------- | ---- |  | ---- | -
|                                                                       |  | For the three months ended March 31, |      
|                                                                       |  | 2005                                 |       | 2004 |   | Change |  | % of Change |     
|Total Revenues from Corporate (millions)                               |  | $                                    | 11.5  |      | $ | 6.4    |  | $           | 5.1  |  | 79.3 | %
|                                                                       |  |                                      |       |      |   |        |  |             |      |  |      |  
|Average corporate investment balance in the Deephaven Funds (millions) |  | $                                    | 314.4 |      | $ | 227.4  |  | $           | 87.0 |  | 38.2 | %



Total revenues from
the Corporate segment, which primarily represents income from our corporate investment in the Deephaven Funds and other strategic investments, increased 79.3%. The increase is primarily due to the sale of a portion of our investment in the ISE. On
March 9, 2005, in conjunction with the ISEs initial public offering, the Company sold approximately 30% of its original equity ownership of the ISE. As a result of the transaction, the Company recognized a pre-tax gain of $9.6 million. The
increase in total revenues from the



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Corporate segment was offset, in part, by a decrease in income from our corporate investment in the Deephaven Funds. Income from our corporate investment in
the Deephaven Funds decreased to a loss of $172,000 for the three months ended March 31, 2005, from a gain of $4.8 million for the comparable period in 2004. The decrease is due to lower average returns on our corporate investment offset, in part,
by a higher average investment balance.



Expenses



Employee compensation and benefits expense decreased
12.7% to $56.9 million for the three months ended March 31, 2005, from $65.1 million for the comparable period in 2004. As a percentage of total revenue, employee compensation and benefits increased to 41.3% for the three months ended March 31,
2005, from 32.8% in the comparable period in 2004. The decrease on a dollar basis was primarily due to the decrease in overall profitability as well as a decrease in the number of employees within our continuing operations. Our number of full time
employees from our continuing business segments decreased to 671 at March 31, 2005, from 692 full time employees at March 31, 2004. In addition, we incurred severance costs of $1.9 million and $337,000 for the three months ended March 31, 2005 and
2004, respectively.



Execution and clearance fees decreased
37.6% to $23.5 million for the three months ended March 31, 2005, from $37.8 million for the comparable period in 2004. As a percentage of total revenue, execution and clearance fees decreased to 17.1% for the three months ended March 31, 2005, from
19.0% for the comparable period in 2004. The decrease on a dollar basis was due to the decrease in equity trades and a reduction in clearance rates. The decrease as a percentage of total revenue was primarily due to lower clearance rates and higher
revenues from Asset Management and Corporate, which have no associated execution and clearance fees, offset, in part, by a lower average revenue metric in Equity Markets.



Payments for order flow decreased 43.1% to $7.4 million for the three months ended March 31, 2005, from $13.0 million for
the comparable period in 2004. As a percentage of total revenue, payments for order flow decreased to 5.4% for the three months ended March 31, 2005, from 6.6% for the comparable period in 2004. The decrease on a dollar basis was due to the decrease
in volumes and changes in our payment for order flow policy. The decrease as a percentage of total revenue was primarily due to higher revenues from Asset Management and Corporate, which have no associated payments for order flow.



Soft dollar and commission recapture expense decreased 1.8% to $15.5 million
for the three months ended March 31, 2005, from $15.8 million for the comparable period in 2004. The slight decrease is primarily due to the activity related to the Donaldson business.



Communications and data processing expense increased 15.7% to $7.8 million for the three months ended March 31, 2005, from
$6.8 million for the comparable period in 2004. This increase was generally attributable to an increase in technology costs related to our Equity Markets business segment.



Depreciation and amortization expense increased 9.8% to $4.3 million for the three months ended March 31, 2005, from $3.9
million for the comparable period in 2004. This increase was primarily due to additional depreciation and amortization expense related to new fixed assets and leasehold improvements at our new corporate headquarters at 545 Washington Boulevard in
Jersey City, which began to be occupied in the first quarter of 2005.



Occupancy and equipment rentals expense decreased 9.9% to $4.0 million for the three months ended March 31, 2005, from $4.4 million for the comparable period in 2004. This decrease was primarily attributable to the lease loss accruals
recorded during 2004 related to our excess real estate capacity, primarily in Jersey City, NJ offset, in part by the leasing of additional office space.



Professional fees increased to $3.8 million for the three months ended March 31, 2005, from $3.4 million for the comparable period in 2004. The increase
in 2005 was primarily due to an increase in consulting expenses and legal expenses, which have fluctuated based on the activity surrounding our various legal and regulatory matters.



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Business development expense decreased to $1.3 million for the three months ended March 31, 2005, from
$2.0 million for the comparable period in 2004. The primary reasons for the decrease were lower advertising and travel and entertainment costs.



Other expenses were flat at approximately $2.7 million for the three months ended March 31, 2005 and 2004, respectively. These results were due to
administrative and other costs remaining consistent over the two time periods.



Our effective income tax rates, from continuing operations, of 41.6% and 40.3% for the three months ended March 31, 2005 and 2004, respectively, differ from the federal statutory income tax rate of 35% due primarily
to state income taxes.



Discontinued Operations



As of the close of business on December 9, 2004, the Company sold
substantially all of the assets and certain of the liabilities that comprised the Derivative Markets business segment operated by Knight Financial Products LLC and Knight Execution Partners LLC to Citigroup for approximately $237 million in cash.
The final purchase price was subject to adjustment based on the final determination of book value of the Derivative Markets business at the time the deal closed. The decision to sell the Derivative Markets business was based on a review of the
overall options industry, the capital and risk required to maintain this business successfully and the business role in the Companys long term strategy. The (Loss) income from discontinued operations, net of tax on the Consolidated
Statements of Operations was ($266,000) and $5.9 million for the three months ended March 31, 2005 and 2004, respectively. For a further discussion of the sale of the Companys Derivative Markets business, please see Footnote 8
Discontinued Operations included in Part I, Item 1 Financial Statements of this document.



Liquidity and Capital Resources



Historically, we have financed our business primarily through cash generated by operations, as well as the proceeds from our stock issuances and, in 2004,
from the proceeds from the sale of our Derivative Markets business segment. As of March 31, 2005, we had $1.5 billion in assets related to our continuing operations, 64% of which consisted of cash or assets readily convertible into cash, principally
receivables from brokers and dealers and securities owned. Receivables from brokers and dealers include interest bearing cash balances held with clearing brokers, including, or net of, amounts related to securities transactions that have not yet
reached their contracted settlement date, which is generally within three business days of the trade date. Securities owned principally consist of equity securities that trade in Nasdaq, on the OTC Bulletin Board and on the NYSE and AMEX markets. At
March 31, 2005, the Company had net current assets from continuing operations, which consists of net assets readily convertible into cash, of approximately $289.8 million. Additionally, our corporate investment in the Deephaven Funds was $315.2
million at March 31, 2005, and was subsequently reduced to $215.2 million on April 1, 2005. The majority of this investment can be liquidated upon request subject to a ninety-day written notification period and monthly redemption limits, or
immediately by invoking our rights as the general partner of the Deephaven Funds.



The Company has previously disclosed its intent to pursue selective acquisitions of (or possible joint ventures with) complementary businesses primarily in the markets in which our Equity Markets and Asset Management
segments operate. We expect to fund the purchase price of any such acquisition with our current cash position or, in some cases, through the issuance of the Companys stock. In April 2005, the Company announced that it had reached an agreement
to acquire, for cash, the business of Direct Trading Institutional, Inc., a privately held firm specializing in providing institutions with direct market access trading through an advanced electronic platform. Additionally, in May 2005, the Company
announced that it had reached an agreement to acquire, for cash, the business of the ATTAIN ECN, an alternative trading system that operates an electronic communications network (ECN) for the trading of Nasdaq securities. The consummation of each of
these



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transactions is subject to regulatory approval and the satisfaction of certain other customary conditions. No assurance can be given with respect to the
timing, likelihood or business effect of these transactions or any other possible transaction.



As discussed elsewhere in this document, we sold our Derivative Markets business for approximately $237 million in cash as of the close of business on December 9, 2004. The final purchase price was subject to
adjustment based on the final determination of the book value of the Derivative Markets business at the time the deal closed. The final purchase price, in addition to other expenses related to the sale, was finalized in the first quarter of 2005 and
resulted in a loss from discontinued operations, net of tax, of $266,000 in the first quarter of 2005.



Income from continuing operations before income taxes was $10.5 million and $43.5 million for the three months ended March 31, 2005 and 2004,
respectively. Included in these amounts were certain non-cash expenses such as depreciation and amortization. Depreciation expense from continuing operations was $4.1 million and $3.7 million for the three months ended March 31, 2005 and 2004,
respectively. Amortization expense from continuing operations, which related to intangible assets was $155,000 and $146,000 for the three months ended March 31, 2005 and 2004, respectively. There were no non-cash writedowns or charges related to our
continuing operations for the three months ended March 31, 2005 and 2004, respectively.



Net proceeds from (purchases of) strategic investments were $1.9 million and ($4.5 million) for the three months ended March 31, 2005 and 2004, respectively. Our corporate investment in the Deephaven Funds increased
by $99.8 million for the three months ended March 31, 2005 compared to an increase of $29.8 million during the three months ended March 31, 2004. The change in the balance of our corporate investment in the Deephaven Funds for 2005 primarily relates
to the Companys additional investment of a portion of its proceeds from the sale of the Derivative Markets business of $100.0 million on January 1, 2005. This investment was redeemed by the Company on April 1, 2005, reducing the Companys
total corporate investment to $215.2 million.



Capital
expenditures related to our continuing operations were $13.0 million and $2.8 million during the three months ended March 31, 2005 and 2004, respectively. Capital expenditures primarily relate to the purchase of leaseholds and other fixed assets
related to the buildout of our new headquarters at 545 Washington Boulevard in Jersey City, NJ. We began the process of moving our Jersey City, NJ offices to 545 Washington Boulevard during the first quarter of 2005 and anticipate to complete the
majority of the move by the end of the second quarter of 2005. Currently, we estimate that we will spend approximately an additional $9 million related to this move, the majority of which will be for leasehold improvements that will be amortized
over the remaining life of the lease, which ends in October 2021.



At its April 19, 2005 meeting, the Board of Directors authorized an additional increase in the size of the Companys stock repurchase program from $250 million to $320 million. The Company repurchased 6.6 million shares during the
first quarter of 2005 for a total cost of $68.3 million. Through March 31, 2005, the Company had repurchased 28.3 million shares for $219.1 million under its stock repurchase program. The Company may repurchase shares in the open market or through
privately negotiated transactions, depending on prevailing market conditions, alternative uses of capital and other factors. The Company cautions that there are no assurances that any further repurchases may actually occur. The Company had
approximately 110.7 million shares of Class A Common Stock outstanding as of March 31, 2005.



As registered broker-dealers, Knight Equity Markets, L.P. (KEM) and Knight Capital Markets LLC (KCM) are subject to regulatory requirements intended to ensure the general financial soundness
and liquidity of broker-dealers and requiring the maintenance of minimum levels of net capital, as defined in SEC Rule 15c3-1. These regulations also prohibit a broker-dealer from repaying subordinated borrowings, paying cash dividends, making loans
to its parent, affiliates or employees, or otherwise entering into transactions which would result in a reduction of its total net capital to less than 120.0% of its required minimum capital. Moreover,



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broker-dealers, including KEM and KCM, are required to notify the SEC prior to repaying subordinated borrowings, paying dividends and making loans to its
parent, affiliates or employees, or otherwise entering into transactions, which, if executed, would result in a reduction of 30.0% or more of its excess net capital (net capital less minimum requirement). The SEC has the ability to prohibit or
restrict such transactions if the result is detrimental to the financial integrity of the broker-dealer. Additionally, Knight Equity Markets International Ltd. (KEMIL) is subject to capital adequacy requirements of the Financial Services
Authority in the United Kingdom. The following table sets forth the net capital levels and requirements for the following significant broker-dealer subsidiaries at March 31, 2005 (in millions):



|       |  |             |       |                    |   |                   |  |   |     
|------ |  | ----------- | ----- | ------------------ | - | ----------------- |  | - | ----
|Entity |  | Net Capital |       | Minimum NetCapital |   | Excess NetCapital
|KEM    |  | $           | 104.1 |                    | $ | 4.8               |  | $ | 99.3
|KCM    |  |             | 32.1  |                    |   | 3.6               |  |   | 28.5
|KEMIL  |  |             | 18.3  |                    |   | 6.8               |  |   | 11.5



We have no long-term
debt at March 31, 2005 nor do we currently have any material long-term debt commitments for the rest of 2005. We currently anticipate that available cash resources and credit facilities will be sufficient to meet our anticipated working capital and
capital expenditure requirements for at least the next 12 months.



Off-Balance Sheet Arrangements



As of March
31, 2005, we did not have any off-balance sheet arrangements, as defined in Item 303 (a) (4) (ii) of SEC Regulation S-K.



Critical Accounting Policies



The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions. We believe that, of our significant
accounting policies, the following policies involve a higher degree of judgment.



Lease Loss AccrualIt is the Companys policy to identify excess real estate capacity and, where applicable, accrue against such future costs. In determining the accrual, a nominal cash flow analysis
is performed for lease losses initiated prior to December 31, 2002, the effective date of Statement of Financial Accounting Standards (SFAS) No. 146 Accounting for Costs Associated with Exit or Disposal Activities(which requires
the accrual of future costs to be made using a discounted cash flow analysis for lease losses initiated after such date), and costs related to the excess capacity are accrued. Based on the results of an analysis of the current accrual and market
conditions, which was performed during the period, no additional accrual was recorded in the first quarter of 2005. The majority of the lease loss accrual charges taken to date is related to a portion of our lease at 545 Washington Boulevard in
Jersey City, New Jersey, encompassing approximately 78,000 square feet, all of which is unoccupied. The Company engaged a real estate broker in order to sub-lease this excess space based on an assessment of our real estate needs. The analysis of our
accrual was derived from assumptions and estimates based on lease terms of projected sub-lease agreements, which assumed a sub-lease will have commenced at the beginning of 2006, anticipated market prices along the Jersey City waterfront and
estimated up-front costs, including broker fees and build out allowances. We continually monitor the market and space to assess the reasonableness of our applicable assumptions.



Impairment of Goodwill and Intangible AssetsThe useful lives of goodwill and intangible assets are determined
upon acquisition. Intangible assets are amortized over their respective lives. Goodwill and the useful lives of intangible assets are tested for impairment, at a minimum, on an annual basis, or when an event occurs or circumstances change that
signify the existence of impairment.



Our Goodwill related to
continuing operations of $19.2 million as of March 31, 2005 is related to the purchase of our listed equities market maker, KCM, the business of Donaldson and the purchase of the shares of



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the minority investors in Knight Roundtable Europe Limited, our subsidiary that owns KEMIL. During our annual tests for impairment done in 2004, it was
determined that these assets were not impaired. As part of our test for impairment, we considered the profitability of the applicable reporting unit, an assessment of fair value of the reporting unit based on various valuation methodologies, as well
as the overall market value of the Company, compared to the Companys book value.



Our Intangible assets related to continuing operations of $11.4 million as of March 31, 2005 is attributable to our Equity Markets business segment. The balance is primarily related to our acquisition of the business
of Donaldson. These assets are being amortized on a straight-line basis over their useful lives, which have been determined to range from five to thirty years. During our annual tests for impairment done in 2004, it was determined that there was no
impairment to these intangible assets.



We plan on performing
the annual tests for impairment of goodwill and the useful lives of intangible assets for 2005 during the second quarter.



Strategic InvestmentsInvestments include ownership interests of less than 20% in financial services-related businesses, which are accounted
for under the equity method or at fair value. The equity method of accounting is used for investments in limited partnerships and limited liability corporations. Investments that are classified as available-for-sale, which include our investments in
Nasdaq and the ISE, are reported at fair value with unrealized gains and losses excluded from earnings and reported, net of applicable taxes, in Accumulated other comprehensive income, net of tax within Stockholders Equity on the Consolidated
Statements of Financial Condition. The fair value of investments for which a quoted market or dealer price is not available for the size of our investment is based on managements estimate. Among the factors considered by management in
determining the fair value of investments are the cost of the investment, terms and liquidity, developments since the acquisition of the investment, the sales price of recently issued securities, the financial condition and operating results of the
issuer, earnings trends and consistency of operating cash flows, the long-term business potential of the issuer, the quoted market price of securities with similar quality and yield that are publicly traded, and other factors generally pertinent to
the valuation of investments. The fair value of these investments is subject to a high degree of volatility and may be susceptible to significant fluctuations in the near term. The valuations of strategic investments, which include our investments
in Nasdaq and the International Securities Exchange, are reviewed on an ongoing basis.



Market-Making ActivitiesSecurities owned and securities sold, not yet purchased, which primarily consist of listed and OTC stocks, are carried at market value and are recorded on a trade date basis.
Market value is estimated daily using market quotations available from major securities exchanges and dealers.



Asset Management FeesThe Company earns asset management fees for sponsoring and managing the Deephaven Funds. Such fees are recorded monthly
as earned and are calculated as a percentage of the Deephaven Funds monthly net assets, plus a percentage of a new high net asset value (the Incentive Allocation Fee), as defined, for any six month period ended June 30th or
December 31st. A new high net asset value is defined as the amount by which the net asset value of the Deephaven Funds exceeds the greater of either the highest previous net asset value in the Deephaven Funds or the net asset value at the time each
investor made his purchase. The Incentive Allocation Fee may increase or decrease during the year based on the performance of the Deephaven Funds. If Deephavens Market Neutral Fund, which contains the majority of the assets under management,
recognizes a loss in the second half of a calendar year, the Incentive Allocation Fee is recalculated on an annual rather than a semi-annual basis. As such, the Incentive Allocation Fee may be negative for certain periods, but not lower than zero on
a year-to-date basis.



Writedown of Fixed
AssetsWritedowns of fixed assets are recognized when it is determined that the fixed assets are no longer actively used and are determined to be impaired. The amount of the impairment is determined by the difference between the carrying
amount and the fair value of the fixed asset. In determining the impairment, an estimated fair value is obtained through research and inquiry of the market. Fixed assets are reviewed for impairment on a quarterly basis.



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Other EstimatesThe preparation of financial statements in conformity with GAAP requires
management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results may differ from those estimates. In addition to the estimates noted in this section, the Company uses estimates in determining compensation and benefits expense for interim periods and in determining
provisions for potential losses that may arise from litigation and regulatory proceedings.



A portion of our Employee compensation and benefits expense on the Consolidated Statements of Operations represents discretionary bonuses, generally determined at year end and paid in the subsequent months. Among many
factors, discretionary bonus accruals, in general, are influenced by the Companys overall performance and competitive industry compensation levels. Therefore, for each interim period, we accrue an amount based on this analysis.



We estimate and accrue for potential losses that may arise out of litigation
and regulatory proceedings to the extent that such losses are probable and can be estimated in accordance with SFAS No. 5 Accounting for Contingencies. The amount accrued is determined on a case-by-case basis and represents an estimate of
probable losses based on, among other factors, the progress of each case, our experience with and industry experience with similar cases and the opinions and views of legal counsel. As such, the total amount accrued may be materially different from
the final outcome of such matters. For more information on our legal and regulatory issues, see Legal Proceedings in Part I, Item 3 of the Companys Annual Report on Form 10-K and Part II, Item 1 included in this document.



Recently Issued Accounting Standards



In January 2003, the Financial Accounting Standards Board (FASB)
issued a FASB Interpretation (FIN) No. 46, Consolidation of Variable Interest Entities. FIN No. 46 requires a company to consolidate a variable interest entity (VIE) if the company has variable interests that give it a
majority of the expected losses or a majority of the expected residual returns of the entity. Prior to FIN No. 46, VIEs were commonly referred to as SPEs. In October 2003, the FASB deferred the effective date of FIN No. 46 for pre-existing VIEs to
no later than February 2004. In December 2003, the FASB issued a revision to FIN No. 46 (FIN No. 46-R), which incorporated the October 2003 deferral provisions and clarified and revised the accounting guidance for VIEs. As the Company does not have
any VIEs, the adoption of this statement had no effect on our financial statements.



In December 2004, the FASB issued a revision to SFAS No. 123 Accounting for Stock-Based Compensation, SFAS No. 123-R, Share-Based Payment. SFAS No. 123-R focuses primarily on transactions in which an
entity exchanges its equity instruments for employee services. SFAS No. 123-R eliminates the intrinsic value method under Accounting Principles Board No. 25 as an alternative method of accounting for stock-based awards. Additionally SFAS No. 123-R
clarifies SFAS No. 123s guidance in several areas including measuring fair value, classifying an award as equity or as a liability and attributing compensation cost to reporting periods. In April 2005, the SEC amended the effective date of
compliance for FAS 123-R. This statement is effective for the fiscal year that begins after June 15, 2005. The Company plans on adopting the provisions of this statement for 2006 and is currently evaluating the effect of adoption of the statement,
but does not expect adoption to have a material effect on our financial condition, results of operations or cash flows.



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Item 3.    Quantitative and Qualitative Disclosures About Market Risk



Our market-making and trading activities expose our capital to significant risks. These risks include, but are not limited to, absolute and relative price
movements, price volatility and changes in liquidity, over which we have virtually no control.



For working capital purposes, we invest in money market funds, commercial paper and government securities or maintain interest-bearing balances in our trading accounts with clearing brokers, which are classified as
cash and cash equivalents and receivable from clearing brokers, respectively, in the Consolidated Statements of Financial Condition. These other amounts do not have maturity dates or present a material market risk, as the balances are short-term in
nature and subject to daily repricing. Our cash and cash equivalents held in foreign currencies are subject to the exposure of foreign currency fluctuations. These balances are monitored daily, and are not material to the Companys overall cash
position.



In Equity Markets, we employ automated proprietary
trading and position management systems that provide real-time, on-line position management and inventory control. We monitor our risks by reviewing trading positions and their appropriate risk measures. We have established a system whereby
transactions are monitored by senior management on a real-time basis as are individual and aggregate dollar and inventory position totals and real-time profits and losses. The management of trading positions is enhanced by review of mark-to-market
valuations and position summaries on a daily basis.



In the
normal course of our equities market-making business, we maintain inventories of exchange-listed and OTC equity securities. The fair value of these securities at March 31, 2005 and 2004 was $270.9 million and $314.8 million, respectively, in long
positions and $226.0 million and $270.5 million, respectively, in short positions. The potential change in fair value, using a hypothetical 10.0% decline in prices, is estimated to be a $4.5 million loss and a $4.4 million loss as of March 31, 2005
and 2004, respectively, due to the offset of gains in short positions with the losses in long positions.



As of March 31, 2005, we had a $315.2 million corporate investment in the Deephaven Funds, $294.6 million of which was invested in the Market Neutral
Fund. We invested $100 million in the Market Neutral Fund on January 1, 2005. This additional investment was redeemed by the Company on April 1, 2005. The general objective of market neutral investment strategies is to capture mispricings or spreads
between related capital instruments. Within the Market Neutral Fund, Deephaven employs a variety of market neutral investment strategies, including convertible arbitrage, event arbitrage, relative value equity, distressed debt and private placements
in public companies. Because the primary basis of the Deephaven Funds market neutral strategy is capturing mispricings or spreads between related instruments, rather than attempting to predict or follow absolute price movements, the
performance of the Market Neutral Fund is expected to be substantially non-correlated with the general debt and equity markets, as well as with a number of other non-traditional investment strategies. However, there will be unhedged credit risk in
the convertible arbitrage portfolio and that part of the portfolio will have some correlation to credit spreads. Market neutral trading strategies also involve other substantial risks such as the disruption in historical pricing relationships and
the risk of a tightening of dealer credit, forcing the premature liquidation of positions. The Deephaven Funds also utilize leverage, to the extent available and deemed by Deephaven to be consistent with the Funds risk/reward objectives, in an
attempt to increase returns while maintaining strict risk controls.



The Deephaven Funds employ automated proprietary trading and position management systems that provide position management and inventory control. We monitor our risks by reviewing trading positions and their



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appropriate risk measures. We have established a system whereby transactions are monitored by management and an independent risk control function, as are
individual and aggregate dollar and inventory position totals and profits and losses by strategy. The management of trading positions is enhanced by review of mark-to-market valuations and position summaries. There can be no assurances that the
Deephaven Funds strategy will be successful in achieving either its risk control or its profit objectives.



Item 4.    Controls and Procedures



As of the end of the period covered by this report, an evaluation was carried out under the supervision and with the participation of the Companys management, including our Chief Executive Officer and Chief
Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-14(c) under the Securities Exchange Act of 1934). Based upon that evaluation, the Chief Executive Officer and Chief
Financial Officer concluded that the design and operation of these disclosure controls and procedures were effective. There have not been any changes in the Companys internal control over financial reporting (as such term is defined in Rule
13a-15(f) and 15d-15(f) under the Securities Exchange Act) during the last fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, the Companys internal control over financial
reporting.



PART II    OTHER INFORMATION



Item 1.    Legal Proceedings



From time to time, we and certain of our past and present officers, directors and employees have been named as parties to legal actions, securities arbitrations, administrative claims and regulatory reviews and
investigations arising in connection with the conduct of our businesses. We are also subject to several of these matters at the present time. Although there can be no assurances, at this time the Company believes, based on information currently
available, that the outcome of each of the matters will not have a material adverse effect on the consolidated financial condition of the Company, although they might be material to operating results for any particular period, depending, in part,
upon operating results for that period.



Legal



Short Selling Litigation: In May 2005, the following development
occurred in the action entitled JAG Media Holdings, Inc. et al. v. A.G. Edwards & Sons, Inc. et al., described in the Companys Annual Report on Form 10-K for the year ended December 31, 2004:



On May 5, 2005, the Court entered a Final Judgment dismissing the action
against KEM and all other moving defendants with prejudice. By stipulation of the parties, each party also agreed to waive their right to appeal the Final Judgment.



Other Litigation:During the first quarter of 2005, the following development occurred in the action entitled Last
Atlantis Capital LLC et al. v. Chicago Board Options Exchange, Inc. et al. described in the Companys Annual Report on Form 10-K for the year ended December 31, 2004:



On or about March 30, 2005, the court dismissed the complaint with prejudice and entered judgment against the plaintiffs.
Plaintiffs have moved to vacate the judgment and for reconsideration of the dismissal.



Regulatory



The Company owns subsidiaries
including regulated broker-dealers that are subject to extensive oversight under federal, state and applicable international laws as well as SRO rules. Changes in market structure and the need to remain competitive require constant changes to our
systems and order handling procedures. The Company makes these changes while continuously endeavoring to comply with many complex laws and rules. Compliance, surveillance or trading issues, common in the securities industry, and which are monitored
or



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reported to the SEC or SROs, are reviewed in the ordinary course of business by our primary regulators, the SEC and the NASD. The Company, as a major order
flow execution destination, is named from time to time in, or is asked to respond to a number of regulatory matters brought by SROs that arise from its trading activity. The Company is currently the subject of various regulatory reviews and
investigations. In some instances, these matters may rise to an SEC or SRO disciplinary action and/or civil or administrative action.



For further information on Legal Proceedings, see the section entitled Legal Proceedings, in Part I, Item 3 of our Annual Report on Form 10-K
for the year ended December 31, 2004.



Item 2.    Changes in Securities and Use of Proceeds



The following table contains information about our purchases of our Class A Common Stock during the first quarter of 2005:



|                                    |  |                                    |  |                             |       |                                                                                   |           |                                                                                       |   |           
|----------------------------------- |  | ---------------------------------- |  | --------------------------- | ----- | --------------------------------------------------------------------------------- | --------- | ------------------------------------------------------------------------------------- | - | ----------
|Period(1)                           |  | Total Numberof SharesPurchased (2) |  | Average PricePaid per Share |       | Total Number of SharesPurchased as Part ofPublicly AnnouncedPlans or Programs (3) |           | Approximate DollarValue of Shares That MayYet Be Purchased Underthe Plans or Programs
|January 1, 2005 -January 31, 2005   |  | 900,000                            |  | $                           | 9.79  |                                                                                   | 900,000   |                                                                                       | $ | 90,369,413
|February 1, 2005 -February 28, 2005 |  | 3,715,000                          |  |                             | 10.36 |                                                                                   | 3,715,000 |                                                                                       |   | 51,890,237
|March 1, 2005 -March 31, 2005       |  | 2,025,000                          |  |                             | 10.38 |                                                                                   | 2,025,000 |                                                                                       |   | 30,877,797
|                                    |  |                                    |  |                             |       |                                                                                   |           |                                                                                       |   |           
|Total                               |  | 6,640,000                          |  |                             | 10.29 |                                                                                   | 6,640,000 |                                                                                       |   |           
|                                    |  |                                    |  |                             |       |                                                                                   |           |                                                                                       |   |           

---

|(1) | As a matter of policy, the Company does not repurchase its Class A Common Stock during self-imposed closed window periods.
|--- | ----------------------------------------------------------------------------------------------------------------------------



|(2) | All shares were repurchased through our publicly announced stock repurchase program. Table excludes shares repurchased related to tax withholdings resulting from the
vesting of employee restricted stock.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(3) | On April 4, 2002, the Companys Board of Directors announced the authorization of a stock repurchase program, which allowed for the purchase of Class A Common
Stock up to a total amount of $35 million. This repurchase program was increased by an aggregate of $285 million to a total of $320 million by resolutions of the Companys Board of Directors adopted on July 16, 2002, May 12, 2003, April 20,
2004, August 8, 2004 and April 19, 2005. The Company may repurchase shares in the open market or through privately negotiated transactions, depending on prevailing market conditions, alternative use of capital and other factors. The total remaining
authorization under the program was $72.8 million as of May 10, 2005. The repurchase program has no set expiration or termination date.
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Item 3.    Defaults Upon Senior Securities



None.



Item 4.    Submission of Matters to a Vote of Security Holders



None.



Item 5.    Other Information



None.



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Item 6.    Exhibits



|            |   |  |                                                                                                                                                                                                                        
|----------- | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit No. |   |  | Exhibit                                                                                                                                                                                                                
|3.2         |   |  | Amended and Restated By-Laws of the Registrant dated January 19, 2005 (Incorporated herein by reference to Exhibit 3.2 to Knights Annual Report on Form 10-K (Commission file number
001-14223) dated March 15, 2005).
|            |  
|10.21       | * |  | Form of Non-Qualified Stock Option Agreement (Incorporated herein by reference to Exhibit 10.1 to Knights Current Report on Form 8-K (Commission file number 001-14223) dated April 4,
2005).                         
|            |  
|10.22       | * |  | Form of Restricted Stock Award Agreement (Incorporated herein by reference to Exhibit 10.2 to Knights Current Report on Form 8-K (Commission file number 001-14223) dated April 4,
2005).                             
|            |  
|31.1        |   |  | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                                     
|            |  
|31.2        |   |  | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                                     
|            |  
|32.1        |   |  | Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                                                      
|            |  
|32.2        |   |  | Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                                                      

---

|* | Management contract or compensatory plan or arrangement.
|- | --------------------------------------------------------



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SIGNATURES



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, in the City of Jersey City, State of New Jersey, on this
10th day of May, 2005.



|                           |  |                                                  
|-------------------------- |  | -------------------------------------------------
|KNIGHT TRADING GROUP, INC.
|                           | 
|By:                        |  | /s/ THOMAS M. JOYCE                              
|                           |  | Chairman of the Board and Chief Executive Officer
|                           | 
|By:                        |  | /s/ JOHN B. HOWARD                               
|                           |  | Chief Financial Officer                          
|                           |  | (Chief Accounting Officer)                       



33