TRADESTATION GROUP INC - Quarter Report: 2008 June (Form 10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

For the quarterly period ended June 30, 2008

OR

For the transition period from              to             

Commission file number: 0-31049

TradeStation Group, Inc.

(Exact name of registrant as specified in its charter)

954-652-7000

(Registrant’s telephone number, including area code)

None

(Former name, former address and former fiscal year, if changed since last report)

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 a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

The registrant had 43,479,035 shares of common stock, $.01 par value, outstanding as of July 29, 2008

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TRADESTATION GROUP, INC. AND SUBSIDIARIES

INDEX

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PART I – FINANCIAL INFORMATION

TRADESTATION GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

See accompanying notes.

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TRADESTATION GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

See accompanying notes.

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TRADESTATION GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

See accompanying notes.

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TRADESTATION GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(All notes and related disclosures applicable to the

three and six months ended June 30, 2008 and 2007 are unaudited)

(1) NATURE OF OPERATIONS AND BASIS OF PRESENTATION

TradeStation Group, Inc. (“TradeStation Group” or the “Company”) is listed on The NASDAQ Global Select Market under the symbol “TRAD.” TradeStation Securities, Inc., TradeStation Technologies, Inc., and TradeStation Europe Limited are TradeStation Group’s operating subsidiaries. TradeStation Securities is an online securities broker-dealer and futures commission merchant. TradeStation Technologies develops and offers strategy trading software tools and subscription services. TradeStation Europe Limited, a United Kingdom private company, is authorized and regulated by the UK Financial Services Authority (“FSA”) as an introducing brokerage firm.

The accompanying consolidated financial statements include the results of the Company and its subsidiaries, all of which are wholly owned. All intercompany accounts and transactions have been eliminated.

The accompanying consolidated financial statements should be read in conjunction with the Consolidated Financial Statements and Notes to Consolidated Financial Statements included in the Annual Report on Form 10-K of TradeStation Group for the year ended December 31, 2007. In the opinion of management, all adjustments (consisting only of normal recurring adjustments) necessary to present fairly the Company’s consolidated financial position as of June 30, 2008 and the consolidated results of operations and cash flows for each of the periods presented have been recorded. The results of operations and cash flows for an interim period are not necessarily indicative of the results of operations or cash flows that may be reported for the year or for any subsequent period. To conform to the presentation as of June 30, 2008, the accompanying consolidated balance sheet as of December 31, 2007 includes a $22,000 reclassification from marketable securities to other assets.

Recently Issued Accounting Standards

In March 2008, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 161, Disclosures about Derivative Instruments and Hedging Activities, an amendment of FASB Statement No. 133 (“SFAS 161”). SFAS 161 applies to all derivative instruments and related hedged items accounted for under FASB Statement No. 133, Accounting for Derivative Instruments and Hedging Activities (“SFAS 133”), and requires entities to provide greater transparency about (i) how and why an entity uses derivative instruments, (ii) how derivative instruments and related hedged items are accounted for under SFAS 133 and its related interpretations, and (iii) how derivative instruments and related hedged items affect an entity’s financial position, results of operations, and cash flows. SFAS 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. The Company believes that the adoption of SFAS 161, effective January 1, 2009, will not have a material impact on its consolidated financial position, results of operations or cash flows.

In December 2007, the FASB issued SFAS No. 141R (“SFAS 141R”), which is a revision of SFAS No. 141, Business Combinations (“SFAS 141”). SFAS 141R applies to all business entities and to transactions or other events in which an entity obtains control of one or more businesses. SFAS 141R revises in various areas and circumstances methods of accounting for the costs of business combinations and various components thereof. SFAS 141R is effective prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. Therefore, for the Company, it will be effective for any business combination made on or after January 1, 2009.

In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities (“SFAS 159”). SFAS 159 allows entities to voluntarily choose, at specified election dates, to measure at fair value many financial instruments and certain other items that are similar to financial instruments. The election is made on an instrument-by-instrument basis and is irrevocable. If the fair value option is elected for an instrument, the statement specifies that all subsequent changes in fair

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value for that instrument shall be reported in earnings. The statement is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007. The Company’s adoption of SFAS 159, effective January 1, 2008, did not have a material impact on its consolidated financial position, results of operations or cash flows during the six months ended June 30, 2008.

In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. This statement addresses how to calculate fair value measurements required or permitted under other accounting pronouncements. SFAS 157 became effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim statements within those years. The Company’s adoption of SFAS 157, effective January 1, 2008, did not have a material impact on its consolidated financial position, results of operations or cash flows during the six months ended June 30, 2008. See Note 10 – FAIR VALUE MEASURES for a discussion of the fair value of the Company’s marketable available-for-sale securities.

(2) STOCK-BASED COMPENSATION

Stock Compensation

The Company records stock-based compensation expense for employee services based upon the grant-date fair value of those awards in accordance with the provisions of SFAS No. 123 (revised 2004), Share-Based Payment (“SFAS 123R”). The Company currently uses the Black-Scholes option pricing model to determine the fair value of stock option awards. The determination of the fair value of stock option awards on the date of grant using an option-pricing model is affected by the market price of the stock, exercise price of an award, expected term of award, assumed volatility of the stock over the term of the award, risk-free interest rate and expected dividend yield. Separate assumptions are used for employee officer options and other employee options (both of which vest over a five-year period) and also for non-employee director options (which vest over a three-year period).

The assumptions used to estimate the fair value of each option grant on the date of grant using the Black-Scholes model are as follows:

In accordance with SFAS 123R, the Company is required to estimate forfeitures at the time of grant and revise those estimates in subsequent periods if actual forfeitures differ from those estimates. Historical data to estimate pre-vesting option forfeitures are used, and stock-based compensation expense is recorded, only for those awards that are expected to vest. All stock-based payment awards are amortized on a straight-line basis over the requisite service periods of the awards, which are generally the vesting periods.

During the three months ended June 30, 2008 and 2007, the Company recorded stock-based compensation expense, primarily related to the issuance of stock options (and, to a lesser extent, common stock issued at a discount under the Company’s employee stock purchase plan), of $2.0 million ($1.7 million net of tax) and $667,000 ($533,000 net of tax), respectively. During the six months ended June 30, 2008 and 2007, the Company recorded stock-based compensation expense, primarily related to the issuance of stock options (and, to a lesser extent, restricted stock awards and common stock issued at a discount under the Company’s employee stock purchase plan), of $2.9 million ($2.4 million net of tax) and $1.3 million ($1.1 million net of tax), respectively.

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Vesting Acceleration of Certain Options

The Company issued a press release on February 21, 2008 announcing that separate family limited partnerships beneficially owned by each of William Cruz and Ralph Cruz, the Company’s non-executive Co-Chairmen, were each entering into a Rule 10b5-1 plan to each sell up to 2,250,000 shares of the Company’s common stock over the period ending March 31, 2010. Under each of the two plans, no more than 750,000 shares (excluding privately negotiated sales, if any) may be sold during any calendar-quarterly period, subject to any Rule 144 volume limitations. Sales under each of the Rule 10b5-1 plans commenced, by their terms, on March 17, 2008.

Certain stock options granted prior to February 2007 to the Company’s Chief Executive Officer, Chief Financial Officer, General Counsel and Chief Growth Officer and certain options granted prior to June 2007 to certain non-employee directors contain a provision resulting in 100% acceleration of vesting if the aggregate beneficial ownership of William Cruz and Ralph Cruz falls below 25%. As a result of sales under the foregoing 10b5-1 plans, the aggregate beneficial ownership of William Cruz and Ralph Cruz fell below 25% in April 2008. The additional compensation expense from this acceleration during the three and six months ended June 30, 2008 was $1.2 million, of which $753,000 was associated with the Company’s Chief Executive Officer. This additional compensation expense of $1.2 million is included in the $2.9 million total stock-based compensation expense for the six months ended June 30, 2008.

Stock-based Awards

During the three months ended June 30, 2008, the Company granted options to purchase an aggregate of 78,000 shares of common stock with a weighted-average grant-date Black-Scholes fair value of $5.23 per share. Such options vest ratably in annual increments over a three- to five-year period and are exercisable at prices ranging from $9.18 to $10.20, which were the closing prices of the Company’s common stock on the dates the options were granted. During the six months ended June 30, 2008, the Company granted options to purchase an aggregate of 352,438 shares of common stock with a weighted-average grant-date Black-Scholes fair value of $6.24 per share. Such options vest ratably in annual increments over a three to five-year period and are exercisable at prices ranging from $9.18 to $11.42 per share, which were the closing prices of the Company’s stock on the dates the options were granted. During the three and six months ended June 30, 2007, the Company granted options to purchase an aggregate of 28,000 and 400,350 shares of common stock, respectively, with weighted-average grant-date Black-Scholes fair values of $5.10 and $7.50 per share, respectively.

There were no issuances of restricted stock during the three months ended June 30, 2008. During the six months ended June 30, 2008, the Company issued 105,574 restricted shares of common stock. The restricted shares, which had a fair market value of approximately $1.2 million on the grant date, were granted as awards under the Company’s incentive stock plan, vest 50% on the third anniversary of the date of grant and 100% on the sixth anniversary, and include 100% automatic vesting acceleration upon retirement, death, disability and change in control of the Company. All of these restricted shares contain a provision whereby, if employment terminates prior to full vesting, the unvested shares will automatically be forfeited and the Company will reacquire the unvested shares for no consideration. In connection with and at the time of his promotion to Chief Executive Officer in February 2007, the Company also issued 152,439 restricted shares of common stock to Salomon Sredni. These restricted shares, which had a fair market value of $2.0 million on the grant date, were granted as a stock award under the Company’s incentive stock plan and vest ratably in annual increments over a five-year period. If Mr. Sredni’s employment terminates prior to full vesting (other than by reason of death or disability), he will automatically forfeit, and the Company will reacquire, the unvested shares for no consideration. The vesting automatically accelerates 100% in the event of Mr. Sredni’s death or disability or a change in control of the Company.

During the three and six-month periods ended June 30, 2008, stock options to purchase 65,965 shares and 97,147 shares, respectively, of the Company’s common stock were exercised under the Company’s incentive stock plan. During the three and six-month periods ended June 30, 2007, stock options to purchase 55,353 shares and 181,150 shares, respectively, of the Company’s common stock were exercised under the Company’s incentive stock plan.

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During the six-months ended June 30, 2008 and 2007, the Company issued 8,557 and 10,775 shares of common stock under the Company’s employee stock purchase plan at prices of $12.08 and $9.91 per share, respectively.

(3) EARNINGS PER SHARE

Weighted average shares outstanding for the three and six months ended June 30, 2008 and 2007 are calculated as follows:

Stock options and non-vested restricted shares of common stock outstanding for the three and six months ended June 30, 2008 and 2007, which were not included in the calculation of diluted earnings per share because their weighted average effect would have been anti-dilutive, are as follows:

(4) COMPREHENSIVE INCOME

Comprehensive income is defined as the change in a business enterprise’s equity during a period arising from transactions, events or circumstances relating to non-owner sources such as unrealized gains or losses on available-for-sale securities and foreign currency translation adjustments. It includes all changes in equity during a period except those resulting from investments by, or distributions to, owners. Comprehensive income was equal to net income for the three and six months ended June 30, 2008 and 2007.

(5) CASH SEGREGATED IN COMPLIANCE WITH FEDERAL REGULATIONS

Cash segregated in compliance with federal regulations, consisting primarily of interest-bearing cash deposits of $517.3 million and $476.0 million as of June 30, 2008 and December 31, 2007, respectively, have been segregated in special reserve bank accounts at JPMorgan Chase Bank, N.A., or one of its banking affiliates, for the exclusive benefit of customers under Rule 15c3-3 of the Securities Exchange Act of 1934 and other regulations. On the first or second business day of each month, if required, this amount is adjusted based upon the previous month-end calculation. On July 2, 2008, cash segregated in compliance with federal regulations increased by $14.5 million, from $517.3 million (the balance as of June 30, 2008) to $531.8 million. Conversely, cash and cash equivalents decreased by $14.5 million on July 2, 2008. On January 2, 2008, cash segregated in compliance with federal regulations increased by $7.0 million, from $476.0 million (the balance as of December 31, 2007) to $483.0 million. Conversely, cash and cash equivalents decreased by $7.0 million on January 2, 2008.

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(6) RECEIVABLES FROM BROKERAGE CUSTOMERS

Receivables from brokerage customers consist primarily of margin loans to TradeStation Securities’ brokerage customers of approximately $97.8 million and $93.9 million at June 30, 2008 and December 31, 2007, respectively. Securities owned by brokerage customers are held as collateral for margin loans. Such collateral is not reflected in the consolidated financial statements. At June 30, 2008 and December 31, 2007, TradeStation Securities was charging a base margin debit interest rate of 7.75% and 8.25% per annum, respectively, on debit balances in brokerage customer accounts.

“Margin” requirements determine the amount of equity required to be held in an account for the purchase of equities on credit. Margin lending is subject to the margin rules of the Board of Governors of the Federal Reserve System, the margin requirements of the Financial Industry Regulatory Authority (FINRA), limits imposed by clearing agent firms, and TradeStation Securities’ own internal policies. By permitting customers to purchase and maintain securities positions on margin, TradeStation Securities takes the risk that a market decline will reduce the value of the collateral securing its margin loan to an amount that renders the margin loan unsecured. Under applicable securities laws and regulations, once a margin account has been established, TradeStation Securities is obligated to require from the customer initial margin of no lower than 50% for purchases of securities and then is obligated to require the customer to maintain its equity in the account equal to at least 25% of the value of the securities in the account. However, TradeStation Securities’ current internal requirement is that the customer’s equity not be allowed to fall below 35% of the value of the securities in the account. If it does fall below 35%, TradeStation Securities requires the customer to increase the account’s equity to 35% of the value of the securities in the account (if not, TradeStation Securities will perform closing transactions to bring the customer account above the maintenance requirement). These requirements can be, and often are, raised as TradeStation Securities deems necessary for certain accounts, groups of accounts, securities or groups of securities. However, there is no assurance that a customer will be willing or able to satisfy a margin call or pay unsecured indebtedness owed to TradeStation Securities.

(7) RECEIVABLES FROM BROKERS, DEALERS, CLEARING ORGANIZATIONS AND CLEARING AGENTS

Amounts receivable from brokers, dealers, clearing organizations and clearing agents consist of the following as of June 30, 2008 and December 31, 2007:

Securities borrowed transactions require TradeStation Securities to provide the counterparty with collateral in the form of cash and are recorded at the amount of cash collateral advanced to the lender. TradeStation Securities monitors the market value of securities borrowed on a daily basis, and collateral is adjusted as necessary based upon market prices. See Note 11 – COMMITMENTS AND CONTINGENCIES – General Contingencies and Guarantees. As of June 30, 2008 and December 31, 2007, TradeStation Securities serviced its institutional equities accounts primarily through Bear, Stearns Securities Corp., futures trades were cleared through R.J. O’Brien & Associates and forex trades were introduced to Gain Capital Group, Inc., all on a fully-disclosed basis (Bear, Stearns Securities Corp., R.J. O’Brien & Associates, and Gain Capital Group, Inc. are collectively referred to as “clearing agents” or “clearing agent firms”). These clearing agents provide services, handle TradeStation Securities’ customers’ funds, hold securities, futures and forex positions, and remit monthly activity statements to the customers on behalf of TradeStation Securities.

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(8) PAYABLES TO BROKERAGE CUSTOMERS

As of June 30, 2008, payables to brokerage customers consisted primarily of cash balances in brokerage customer accounts. At June 30, 2008 and December 31, 2007, payables to customers totaled $648.3 million and $589.7 million, respectively. These funds are the principal source of funding for margin lending. At June 30, 2008 and December 31, 2007, TradeStation Securities was paying interest at the rate of .50% and 1.25% per annum, respectively, on cash balances in excess of $10,000 in brokerage customer accounts.

(9) NET CAPITAL REQUIREMENTS

TradeStation Securities is subject to the net capital requirements of the SEC’s Uniform Net Capital Rule (Rule 15c3-1) and the Commodity Futures Trading Commission’s financial requirement (Regulation 1.17). TradeStation Securities calculates its net capital requirements using the “alternative method,” which requires the maintenance of minimum net capital, as defined by the rules, equal to the greater of (i) $250,000 and (ii) 2.0% of aggregate customer debit balances. Customer debit items are a function of customer margin receivables and may fluctuate significantly, resulting in a significant fluctuation in the Company’s net capital requirements. At June 30, 2008, TradeStation Securities had net capital of approximately $84.7 million (64.6% of aggregate debit items), which was approximately $82.1 million in excess of its required net capital of approximately $2.6 million. At December 31, 2007, TradeStation Securities had net capital of approximately $77.8 million (63.8% of aggregate debit items), which was approximately $75.4 million in excess of its required net capital of approximately $2.4 million.

(10) FAIR VALUE MEASURES

The following table summarizes the basis used to measure marketable available-for-sale securities on a recurring basis in the Company’s consolidated balance sheets as of June 30, 2008 and December 31, 2007:

There were no gains or losses (realized or unrealized) and no purchases, sales, issuances or settlements related to the Company’s marketable available-for-sale securities during the six months ended June 30, 2008.

(11) COMMITMENTS AND CONTINGENCIES

Restricted Cash

As of June 30, 2008 and December 31, 2007, the Company had $1.2 million of restricted cash supporting a ten-year lease agreement for its corporate headquarters.

Operating Leases

The Company has a ten-year lease expiring in August 2012 (with two 5-year renewal options) that commenced in the summer of 2002 for an approximately 70,000 square foot corporate headquarters in Plantation, Florida. Rent escalations, free rent, and leasehold and other incentives are recognized on a straight-line basis over the initial term of this lease. In addition to its corporate headquarters, the Company has five non-cancelable operating leases for facilities (including two data centers) with expirations ranging from December 2008 to July 2012.

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Future minimum lease payments as of June 30, 2008 under all operating leases are as follows:

During the three months ended June 30, 2008 and 2007, total rent expense (which is included in occupancy and equipment and data centers and communications in the accompanying consolidated statements of income) was approximately $1.3 million and $1.1 million, respectively. During the six months ended June 30, 2008 and 2007, total rent expense was approximately $2.4 million and $2.1 million, respectively.

Purchase Obligations

As of June 30, 2008, the Company had various purchase obligations through August 2012 totaling approximately $5.3 million as follows: approximately $2.1 million, $2.2 million, $701,000, $150,000 and $100,000 during the remainder of 2008, 2009, 2010, 2011 and 2012, respectively, related primarily to back office systems and telecommunications services.

Litigation and Claims

Three lawsuits were filed in 2003 by former principal owners of onlinetradinginc.com corp. (the predecessor of TradeStation Securities) against TradeStation Group, certain of its directors and executive officers and certain family partnerships owned by the two former Co-Chief Executive Officers. On July 25, 2003, Benedict S. Gambino, from whom the Company, on October 18, 2002, purchased 2,417,000 shares of Company common stock in a private transaction, filed a lawsuit against the Company and William R. Cruz, Ralph L. Cruz and Marc J. Stone, in the Circuit Court of Broward County, State of Florida. This lawsuit’s allegations included violation of the Florida Securities and Investor Protection Act, common law fraud, negligent misrepresentation, breach of fiduciary duty and breach of contract. On August 18, 2003, Andrew A. Allen Family Limited Partnership (owned and controlled by Andrew A. Allen), from whom the Company, on November 26, 2002, purchased 1,000,000 shares of company common stock in a private transaction, filed a lawsuit against the same defendants in the same court. This lawsuit’s allegations included violation of the Florida Securities and Investor Protection Act, common law fraud, breach of fiduciary duty, negligent misrepresentation and fraudulent inducement. On August 28, 2003, family partnerships owned and controlled by Farshid Tafazzoli and E. Steven zum Tobel filed a lawsuit against the Company, William Cruz and Ralph Cruz, family partnerships owned and controlled by William Cruz and Ralph Cruz, Mr. Stone, Charles Wright and David Fleischman in the Circuit Court of Miami-Dade County, State of Florida. The Tafazzoli claims related to that family partnership’s sale, on May 1, 2002, of 3,000,000 shares of company common stock to family partnerships owned by William Cruz and Ralph Cruz, and the zum Tobel claims related to that family partnership’s sale, on May 3, 2002, of 133,942 shares of company common stock to Charles Wright. This lawsuit’s allegations included violation of the Florida Securities and Investor Protection Act, common law fraud and breach of fiduciary duty. Each of the three lawsuits sought rescission of the share purchases and/or compensatory damages, plus interest, costs and attorneys’ fees.

The Gambino case was settled in the 2006 fourth quarter and, pursuant to the settlement agreement dated November 3, 2006, was dismissed with prejudice. The Gambino settlement was not material to the Company’s consolidated financial position, results of operations or cash flows in any period. Both the Allen and Tafazzoli/zum Tobel lawsuits went to trial (the Allen case in the 2007 second quarter and the Tafazzoli/zum Tobel case in the 2008 first quarter), and judicial rulings and jury verdicts found in favor of the Company and all other defendants on all claims, i.e., found no liability on the part of any of the defendants. Both cases were appealed. The Tafazzoli/zum Tobel case was settled in the 2008 second quarter and, pursuant to the settlement agreement dated June 9, 2008, the appeal was dismissed with prejudice in exchange for the Company agreeing not to pursue recovery of attorneys’ fees. The Allen case was settled in the 2008 third quarter and, pursuant to the settlement agreement dated July 23, 2008, the appeal was dismissed with prejudice in exchange for a payment from Allen to the Company and the Company’s agreement not to pursue recovery of attorneys’ fees.

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The Company also reached, with respect to all three litigations, a final settlement with its primary director and officer liability insurance carrier for a final payment to the Company of $625,000 (plus payment of reasonable legal fees and costs incurred but not yet reimbursed relating to the Allen litigation through the effective date of the settlement agreement with the insurance carrier). The $625,000 settlement with the Company’s insurance carrier was recorded as a recovery of previously-expensed professional services in the accompanying consolidated statements of income for the three and six months ended June 30, 2008.

On or about December 20, 2007, TradeStation Technologies was named as one of several defendants in a complaint filed in the United States District Court, Southern District of Texas, styled Amacker, et. al. v. Renaissance Asset Management (RAM), et. al. Other named defendants included Anthony Michael Ramunno, Man Financial Inc., MF Global, Inc., Lind-Waldock & Company, LLC, Vision, LP, Vision Financial Markets, LLC, R.J. OBrien & Associates, Inc., and FXCM Holdings, LLC. The initial complaint alleged that over forty plaintiffs are entitled to damages because the plaintiffs were investors in a fraudulent commodity pool operated by Mr. Ramunno and RAM. The initial complaint alleged that TradeStation Technologies conducted trades on behalf of and at the request of Mr. Ramunno and RAM. The initial complaint attempted to allege the following claims: (i) violations of the Commodity Exchange Act and accompanying regulations; (ii) common law fraud under Texas law; (iii) statutory fraud under the Texas Business and Commerce Code; (iv) breach of fiduciary duties under Texas law; (v) negligent and intentional misrepresentations under Texas law; and (vi) negligence under Texas law. Plaintiffs have filed a Second Amended Complaint that contains similar factual allegations and attempts to allege a single claim for aiding and abetting liability under the Commodity Exchange Act. The Second Amended Complaint asserts actual damages of at least $17.0 million. The case is at a very early stage, but based upon a preliminary review, there does not appear to be any basis to impose liability on TradeStation Securities or TradeStation Technologies.

TradeStation Securities is also engaged in routine regulatory matters and civil litigation or other dispute resolution proceedings, including a pending matter with NYSE’s Division of Enforcement related to odd-lot trading, which commenced in 2007, a pending matter with NYSE’s Division of Market Surveillance related to partial-round-lot trading, which commenced in July 2008, and a pending NFA arbitration in which the claimant seeks damages of $500,000. The pending NYSE regulatory matters could ultimately result in censures, sanctions, fines and/or other negative consequences.

While no assurances can be given, the Company does not believe that the ultimate outcome of any of the above legal matters or claims will result in a material adverse effect on its consolidated financial position, results of operations or cash flows.

The Company decided, as of June 1, 2002, to no longer carry errors or omissions insurance that covers third-party claims made by brokerage customers or software subscribers as a result of alleged human or system errors, failures, acts or omissions. This decision was made based upon the Company’s assessment of the potential risks and benefits, including significant increases in premium rates, deductibles and coinsurance amounts, reductions in available per occurrence and aggregate coverage amounts, and the unavailability of policies that sufficiently cover the types of risks that relate to the Company’s business.

Management Continuity Agreements

In December 2005, the Company entered into a management continuity agreement with three of its executive officers. Each management continuity agreement provides for potential severance payments during the 100-day period following a change in control, as that term is defined in the agreement, in an amount equal to up to two years of the executive’s annual compensation (in the aggregate for all three executive officers, approximately $2.1 million as of June 30, 2008). The management continuity agreements do not commit the Company to retain any executive’s services for any fixed period of time, do not provide for severance payments unless the Company undergoes a change in control, and do not represent new hires or appointments, as each executive has been serving in his current positions for several years.

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General Contingencies and Guarantees

In the ordinary course of business, there are various contingencies which are not reflected in the consolidated financial statements. These include customer activities involving the execution, settlement and financing of various customer securities and futures transactions. These activities may expose the Company to off-balance sheet credit risk in the event the customers are unable to fulfill their contractual obligations.

In margin transactions, TradeStation Securities may be obligated for credit extended to its customers by TradeStation Securities or its clearing agents that is collateralized by cash and securities in the customers’ accounts. In connection with securities activities, TradeStation Securities also executes customer transactions involving the sale of securities not yet purchased (“short sales”), all of which are transacted on a margin basis subject to federal, self-regulatory organization and individual exchange regulations and TradeStation Securities’ internal policies. Additionally, TradeStation Securities may be obligated for credit extended to its customers by its clearing agents for futures transactions that are collateralized by cash and futures positions in the customers’ accounts. In all cases, such transactions may expose TradeStation Securities to significant off-balance sheet credit risk in the event customer collateral is not sufficient to fully cover losses that customers may incur. In the event customers fail to satisfy their obligations, TradeStation Securities may be required to purchase or sell financial instruments at prevailing market prices to fulfill the customers’ obligations.

TradeStation Securities seeks to manage the risks associated with its customers’ activities by requiring customers to maintain collateral in their margin accounts in compliance with various regulatory requirements, internal requirements, and the requirements of clearing agents. TradeStation Securities and its clearing agents monitor required margin levels on an intra-day basis and, pursuant to such guidelines, require the customers to deposit additional collateral or to reduce positions when necessary. For further discussion, see Note 6 – RECEIVABLES FROM BROKERAGE CUSTOMERS.

TradeStation Securities borrows securities temporarily from other broker-dealers in connection with its broker-dealer business. TradeStation Securities deposits cash as collateral for the securities borrowed. Decreases in securities prices may cause the market value of the securities borrowed to fall below the amount of cash deposited as collateral. In the event the counterparty to these transactions does not return the cash deposited, TradeStation Securities may be exposed to the risk of selling the securities at prevailing market prices. TradeStation Securities seeks to manage this risk by requiring credit approvals for counterparties, by monitoring the collateral values on a daily basis, and by requiring additional collateral as needed.

The customers’ financing and securities settlement activities may require TradeStation Securities and its clearing agents to pledge customer securities as collateral in support of various secured financing sources, which may include bank loans. In the event the counterparty is unable to meet its contractual obligation to return customer securities pledged as collateral, TradeStation Securities may be exposed to the risk of needing to acquire the securities at prevailing market prices in order to satisfy its obligations. TradeStation Securities seeks to manage this risk by monitoring the market value of securities pledged on a daily basis.

TradeStation Securities provides guarantees to its clearing organization and exchanges under their standard membership agreements, which require members to guarantee the performance of other members. Under the agreements, if another member becomes unable to satisfy its obligations to the clearing organization or exchange, other members would be required to meet shortfalls. TradeStation Securities’ liability under these arrangements is not quantifiable and may exceed the cash and securities it has posted as collateral. However, management believes that the possibility of TradeStation Securities being required to make payments under these arrangements is remote. Accordingly, no liability has been recorded for these potential events.

(12) INCOME TAXES

During the three and six months ended June 30, 2008, the Company recorded an income tax provision of $3.9 million and $9.2 million, respectively, based upon its current estimated annual effective income tax rate of approximately 39%. During the three and six months ended June 30, 2007, the Company recorded an income tax provision of $4.8 million and $9.8 million, respectively, based upon its then-estimated annual effective income tax rate of approximately 38%. The increase in the Company’s estimated annual effective income tax rate was due primarily to the absence of the research and development tax credit, currently not extended by Congress, during the six months ended June 30, 2008.

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As of June 30, 2008, for financial reporting purposes, the Company estimates that it had available for federal income tax purposes total net operating loss carryforwards and income tax credit carryforwards of approximately $1.4 million and $124,000, respectively. The net operating loss carryforwards expire in 2019 and the tax credits expire between 2010 and 2019. These amounts are subject to annual usage limitations of approximately $545,000. These limitations are cumulative to the extent they are not utilized in any year.

As of January 1, 2008, the Company had a liability for unrecognized tax benefits of $638,000, which was decreased to $492,000 during the six months ended June 30, 2008. If this tax benefit is recognized in the consolidated financial statements, it would not have a material impact to the Company’s annual effective tax rate because the difference is temporary in nature. The Company does not anticipate any significant changes in uncertain tax positions over the next twelve months.

The Company is currently subject to income taxes in the U.S. federal jurisdiction, three states, and the United Kingdom. Tax regulations within each jurisdiction are subject to the interpretation of the related tax laws and regulations and require significant judgment to apply. The Company is no longer subject to U.S. federal tax examinations prior to 2005, and state and local tax examinations by tax authorities for the years before 2003.

Any interest and penalties, if incurred in connection with any income tax examination, would be recognized as components of income tax expense.

(13) SEGMENT AND RELATED INFORMATION

TradeStation Group operates in two principal business segments: (i) brokerage services and (ii) software products and services. The Company evaluates the performance of its segments based on revenue and income before income taxes. The brokerage services segment represents the operations of TradeStation Securities and the software products and services segment represents the operations of TradeStation Technologies. Intercompany transactions between segments are based upon an intercompany licensing and support agreement and an expense-sharing agreement, which reflect current business relationships and complies with applicable regulatory requirements. All significant intercompany transactions and balances have been eliminated in consolidation.

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(14) STOCK BUYBACK PLAN

In October 2006, the Company’s Board of Directors authorized, and the Company announced, the use of up to $60 million of the Company’s available and unrestricted cash, over a four-year period, to repurchase shares of its common stock in the open market or through privately-negotiated transactions. The stock repurchases are authorized to be made pursuant to a Rule 10b5-1 plan. The four-year period commenced on November 13, 2006 and ends on November 12, 2010. Pursuant to the buyback plan, $1.25 million of Company cash during each full calendar month (and a prorated amount during the first and last months) of the four-year period (i.e., $15 million per 12-month period and $60 million for the four-year period) has been authorized to be used to purchase Company shares at prevailing prices, subject to compliance with applicable securities laws, rules and regulations, including Rules 10b5-1 and 10b-18. The buyback plan does not obligate the Company to acquire any specific number of shares in any period, and may be modified, suspended, extended or discontinued at any time without prior notice.

During the three months ended June 30, 2008, the Company used approximately $3.75 million to purchase 383,660 shares of its common stock at an average price of $9.77 per share. During the six months ended June 30, 2008, the Company used approximately $7.5 million to purchase 736,285 shares of its common stock at an average price of $10.18 per share. Since commencement of this stock buyback plan on November 13, 2006, through June 30, 2008, the Company has used approximately $24.5 million to purchase 2,112,750 shares of its common stock at an average price of $11.59 per share. All shares purchased have been retired. See ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS – (c) Share Repurchases in PART II – OTHER INFORMATION of this report.

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This discussion should be read and evaluated in conjunction with the Consolidated Financial Statements and the Notes to Consolidated Financial Statements of TradeStation Group and its subsidiaries contained in this report and with the issues, uncertainties and risk factors related to our business and industry described in “ITEM 1A. RISK FACTORS” of PART I of the Annual Report on Form 10-K of TradeStation Group for the year ended December 31, 2007, “ITEM 1A. RISK FACTORS” of PART II of the Quarterly Report on Form 10-Q of TradeStation Group for the quarter ended March 31, 2008 and “ITEM 1A. RISK FACTORS” of PART II of this report. The results of operations for an interim period are not necessarily indicative of results for the year, or for any subsequent period.

Overview and Recent Developments

TradeStation Securities (Member NYSE, FINRA, SIPC, NSCC, DTC, OCC & NFA) is a licensed securities broker-dealer and a registered futures commission merchant, and also a member of the American Stock Exchange, Boston Options Exchange, Chicago Board Options Exchange, Chicago Stock Exchange, International Securities Exchange, NASDAQ OMX, NYSE-Euronext, and Philadelphia Stock Exchange. TradeStation Securities’ business is also subject to the rules and requirements of the Securities and Exchange Commission (SEC), Commodity Futures Trading Commission (CFTC) and state regulatory authorities (the firm is registered to conduct its brokerage business in all 50 states and the District of Columbia). TradeStation Securities self-clears most of its equities and equity and index options business, and uses an established futures clearing firm and an established forex dealer firm to clear its futures and forex business.

TradeStation Securities’ revenues consist primarily of transactional commissions and fees (including monthly platform fees), and interest derived from customer balances and margin lending to customers.

As of June 30, 2008, TradeStation Securities had 40,769 equities, futures and forex accounts (the vast majority of which were equities and futures accounts), a net increase of 2,112 accounts, or 5%, when compared to 38,657 accounts as of March 31, 2008, and a net increase of 6,681 accounts, or 20%, when compared to 34,088 accounts as of June 30, 2007. A brokerage account is defined as an account that either has a positive asset balance of at least $200 or has had activity within the past 180 days. In other words, an account is deemed inactive and is not included in counting total brokerage accounts if it has had less than a $200 balance and has had no activity within the past 180 days.

During the three and six months ended June 30, 2008, TradeStation Securities’ brokerage customer account base had 91,121 and 99,953 daily average revenue trades (often called “DARTs”), an increase of 28% and 41%, when compared to 71,117 and 70,659 DARTs, respectively, during the three and six months ended June 30, 2007. The following table presents certain brokerage metrics and account information:

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We compute DARTs as follows: For equities and equity and index options, a revenue trade included to calculate DARTs is a commissionable trade order placed by the customer and executed, regardless of the number of shares or contracts included in the trade order. For futures and forex, a revenue trade included to calculate DARTs is one round-turn commissionable futures contract traded, or one round-turn lot (or forex deal) traded, regardless of the number of individual orders made and executed (i.e., one futures or forex order may contain numerous contracts or deals, but each round-turn contract and deal is counted as a separate revenue trade). When viewing our DARTs, it should be taken into account that, for equities and equity and index options, we charge commissions based mostly on share volume (and, recently, if the customer chooses, per trade, regardless of the number of shares traded) and number of options contracts traded. For futures and forex, we charge commissions on a per contract or per lot basis (so each futures or forex revenue trade included to calculate DARTs represents a round-turn commissionable contract or round turn-lot traded). It should be noted that all DARTs are not equal. The revenue and profit margin we derive from each revenue trade depends on the asset in question (equities, equity and index options, futures, forex – each has a different per unit revenue structure and cost structure), and, within each asset class, revenue per equity, contract or deal varies to the extent higher volume traders receive more favorable pricing, which they often do.

TradeStation Technologies owns all of our intellectual property. TradeStation Technologies also provides subscription services for TradeStation. The subscription version of TradeStation is an institutional-quality service that offers strategy trading software tools that generate real-time buy and sell alerts based upon the subscriber’s programmed strategies, but does not include order execution. Subscribers are charged a monthly subscription fee.

Our United Kingdom subsidiary, TradeStation Europe, is authorized by the United Kingdom’s FSA to act as an introducing brokerage firm in the United Kingdom. In February 2007, TradeStation Europe obtained its European “passport” pursuant to which TradeStation Europe is considered registered, via its FSA authorization, to conduct business throughout the European Union. TradeStation Europe’s operations currently consist of the solicitation and introduction of suitable European brokerage clients to its US affiliate (TradeStation Securities) for equities, options, futures and forex account services. As of June 30, 2008, and through the date of the filing of this report, TradeStation Europe’s operations and net assets are not considered by the company to be material to its consolidated financial statements.

Critical Accounting Policies and Estimates

The preparation of financial statements 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, as well as the reported amounts of revenues and expenses during the reporting period. Actual results could differ materially from those estimates. Our significant accounting policies are described in Note 2 of Notes to Consolidated Financial Statements included in our Annual Report on Form 10-K for the year ended December 31, 2007 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES. The following areas are particularly subject to management’s judgments and estimates or are key components of our results of operations, and could materially affect our consolidated results of operations and financial position: Brokerage Commissions and Fees, Net Interest Income, Income Taxes, and Uninsured Loss Reserves. These areas are discussed in further detail under the heading “Critical Accounting Policies and Estimates” in ITEM 7 of our Annual Report on Form 10-K for the year ended December 31, 2007.

Results of Operations

For the three and six months ended June 30, 2008 and 2007, we operated in two principal business segments: (i) brokerage services and (ii) software products and services. The brokerage services segment represents the operations of TradeStation

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Securities and TradeStation Europe Limited and the software products and services segment represents the operations of TradeStation Technologies. Our primary source of consolidated revenue is the brokerage services segment, and the brokerage services segment should continue to produce most of our revenues for the foreseeable future. For the three and six months ended June 30, 2008 and 2007, the brokerage services segment accounted for approximately 93% of our total consolidated net revenues. Given the size of that percentage, other than our discussion and table in Note 13 – SEGMENT AND RELATED INFORMATION in ITEM 1. FINANCIAL STATEMENTS of PART I of this report, we will discuss our results of operations for the overall company instead of on a segmented basis. The following table presents, for the periods indicated, our consolidated statements of income data and presentation of that data as a percentage of change from period to period (unaudited):

Three Months Ended June 30, 2008 and 2007

Net revenues were $36.6 million for the three months ended June 30, 2008, as compared to $35.8 million for the three months ended June 30, 2007, an increase of $766,000, or 2%. The primary reasons for this growth were an increase in brokerage commissions and fees of approximately $5.5 million, or 24%, as a result of higher trade volume related mostly to increased market volatility and growing our brokerage account base, partially offset by a decrease in net interest income of $4.7 million, or 43%, as a result of lower interest rates, partially offset by higher aggregate account balances as a result of net account growth.

Net income was $6.1 million for the three months ended June 30, 2008, as compared to $8.1 million for the three months ended June 30, 2007, a decrease of $2.0 million, or 25%, due primarily to a decrease in net interest income of $4.7 million, our year-over-year increase in expenses of $3.7 million, partially offset by our year-over-year increase in brokerage commissions and fees of $5.5 million.

Income before income taxes was $10.0 million (27% of net revenues) for the three months ended June 30, 2008, as compared to $13.0 million (36% of net revenues) for the three months ended June 30, 2007, a decrease of $2.9 million, or 23%. Our $2.9 million decrease in income before income taxes was due primarily to a decrease in net interest income of $4.7 million, and increases in employee compensation and benefits (which includes stock-based compensation) of $2.1 million, clearing and execution costs of $975,000, and data centers and communications costs of $889,000, partially offset by an increase in brokerage commissions

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and fees of $5.5 million and a decrease in other expenses (as described below) of $219,000. Our pre-tax margin (income before income taxes divided by net revenues) decreased from 36% to 27% due primarily to the decrease in net interest income described above, the increase in employee compensation and benefits, which resulted from merit increases and increased employee headcount, and increases in other costs associated with the growth of the company’s infrastructure.

During the three months ended June 30, 2008, we recorded an income tax provision of $3.9 million based upon our current estimated annual effective income tax rate of approximately 39%. During the three months ended June 30, 2007, we recorded an income tax provision of $4.8 million based upon our then-estimated annual effective income tax rate of approximately 38%. The increase in our estimated annual effective income tax rate is due primarily to the absence of the research and development tax credit, which has currently not been extended by Congress, during the six months ended June 30, 2008. See Income Taxes below.

Revenues

Brokerage Commissions and Fees – Brokerage commissions and fees consist mainly of commissions for equities, futures and forex transactions and, to a lesser extent, monthly platform and other fees earned from brokerage customers using the TradeStation online trading platform. For the three months ended June 30, 2008, brokerage commissions and fees were approximately $28.2 million, as compared to $22.7 million for the three months ended June 30, 2007. This $5.5 million, or 24%, increase was due primarily to an increase in brokerage commissions of $4.2 million resulting from higher trading volume related mostly to higher market volatility during the 2008 second quarter (generally, as market volatility increases our customer accounts’ trade volume increases) and to growing our brokerage customer account base and, to a lesser extent, increases in exchange fee revenue of $664,000 (resulting primarily from a change in classification as revenue, beginning July 1, 2007, of certain exchange fees previously recorded as an offset to expenses), and platform fees of $638,000. We continuously review and assess our pricing, which includes commissions and platform and other fees, and we may adjust such fees from time to time in response to competitive pressures if and when they arise. In July 2008, we introduced a flat-fee commission plan (before this, we offered only per-share commission pricing) targeted at individual equities traders who trade higher share volumes per trade. There can be no assurance that the new flat-fee commission plan will attract new clients or result in an increase in brokerage commissions and fees.

Interest Income – Interest income is composed of interest earned from self-clearing operations (primarily interest earned on brokerage customer cash balances and interest earned from brokerage customer margin debit balances), interest revenue-sharing arrangements with clearing agent firms, and interest on corporate cash and cash equivalents and marketable securities. For the three months ended June 30, 2008, interest income was $7.1 million, as compared to $12.2 million for the three months ended June 30, 2007. This $5.1 million, or 42%, decrease was due primarily to lower interest rates, partially offset by higher aggregate account balances as a result of net account growth. The weighted average rate of interest for equities accounts is based upon the federal funds daily effective rate of interest and, for futures accounts, the federal funds target rate of interest. The federal funds daily effective rate of interest is tied to the federal funds target rate of interest and the direction the markets believe the target rate of interest will move in the future. We estimate, based on the size and nature of our customer assets as of June 30, 2008, that each basis point increase or decrease in the federal funds target rate of interest will impact our annual net income by approximately $65,000. On April 30, 2008, the federal funds target rate of interest decreased by 25 basis points. The average federal funds target rate of interest was 2.08% and 5.25% during the three months ended June 30, 2008 and 2007, respectively. Interest income for future periods may be materially affected by further decreases, increases or “no actions” regarding the federal funds target rate of interest and the extent, if any, by which our customer cash account balances increase or decrease, as well as any decisions we may make to provide more or less favorable debit or credit interest rates to our customers.

Brokerage Interest Expense – Brokerage interest expense is composed of amounts paid or payable to brokerage customers based on credit balances maintained in brokerage accounts and other brokerage-related interest expense. Brokerage interest expense does not include interest on company borrowings, which, if any, would be included in Expenses – Other below. For the three months ended

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June 30, 2008 and June 30, 2007, brokerage interest expense was approximately $847,000 and $1.2 million, respectively. The decrease in brokerage interest expense of $376,000 was due primarily to lower interest rates offered to brokerage customers, partially offset by higher aggregate account balances as a result of net account growth. During the three months ended June 30, 2008, the average annual credit interest rate paid to our equities customers on the portion, if any, of their balances in excess of $10,000, was 0.69%, as compared to 1.25% during the three months ended June 30, 2007. As of June 30, 2008 and through the date of the filing of this report, our equities customers earned interest at the rate of .50% per annum on the portion, if any, of their cash balances in excess of $10,000. Futures and forex customers earn no interest on their cash balances. Factors that will affect brokerage interest expense in the future include: the growth (if any) and mix of growth of our brokerage customer base in equities, futures and forex; average assets per account and the portion of account assets held in cash; and future decisions concerning credit or debit interest rates offered to our customers (as a result of changes in the federal funds target rate of interest or for other business reasons).

Subscription Fees and Other – Subscription fees and other revenues are composed primarily of monthly fees earned for providing streaming real-time, Internet-based trading analysis software tools and data services to non-brokerage customers and, to a lesser extent, fees for our training workshops that help customers take full advantage of functions and features of the TradeStation electronic trading platform, direct sales of our legacy customer software products and royalties and similar fees received from third parties whose customers use our legacy software products. For the three months ended June 30, 2008 and June 30, 2007, subscription fees and other revenues were approximately $2.1 million. The $29,000, or 1%, decrease in subscription fees and other revenues was due primarily to a decrease in the number of subscribers. The amount of subscription fees in the future will depend upon the number of subscription terminations each month and the number of new subscriptions each month. Subscription services and legacy customer software products have not been marketed since 2000, so it is likely that subscription terminations will continue to exceed new subscriptions.

Expenses

Employee Compensation and Benefits – Employee compensation and benefits expenses consist primarily of employee salaries, sales commissions and bonuses, stock-based compensation, and, to a lesser extent, payroll taxes, employee benefits (including group health insurance and employer contributions to benefit programs), recruitment, temporary employee services and other related employee costs. Employee compensation and benefits expenses were $10.8 million for the three months ended June 30, 2008, as compared to $8.8 million for the three months ended June 30, 2007, an increase of approximately $2.1 million, or 23%. This increase was due to increases in stock-based compensation of $1.4 million, wages paid to employees of $639,000, sales commissions of $230,000 and payroll taxes of $59,000, partially offset by decreases in personnel related and other expenses of $182,000, employee benefits of $28,000, and bonuses of $24,000. The increase in stock-based compensation is due primarily to $1.2 million of expense relating to accelerated vesting of certain officer and director stock options that occurred as a result of the collective beneficial ownership of the company by the company’s co-founders falling below 25%. See Note 2 – STOCK-BASED COMPENSATION –Vesting Acceleration of Certain Options in ITEM 1. FINANCIAL STATEMENTS of PART I of this report for additional discussion regarding this acceleration of vesting. The increase in wages was due to increased headcount and annual merit increases. During the three months ended June 30, 2008, there was an average of 331 full-time equivalent employees, as compared to 315 full-time equivalent employees during the three months ended June 30, 2007. Employee compensation and benefits expenses are anticipated to increase during the remainder of 2008 as a result of planned additions to employee headcount primarily in product development and to support our business operations.

Clearing and Execution – Clearing and execution expenses include the costs associated with executing and clearing customer trades, including fees paid to clearing agents and clearing organizations, exchanges and other market centers, fees and royalties paid for the licensing of self-clearing, back-office software systems and related services, and commissions paid to third-party broker-dealers. Clearing and execution expenses were approximately $8.5 million for the three months ended June 30, 2008, as compared to $7.5 million for the three months ended June 30, 2007, an increase of approximately $975,000, or 13%, as a result of higher trade volume by our customers that resulted from the growth of accounts and higher market volatility. Clearing and execution costs as a percentage of brokerage commissions and fees, which will vary depending on the mix of business, were 30% during the three months ended June 30, 2008 and 33% during the three months ended June 30, 2007.

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Data Centers and Communications – Data centers and communications expenses consist of: (i) data communications costs necessary to connect our server farms directly to electronic marketplaces, data sources and to each other; (ii) data communications costs and rack space at our facilities where the data server farms are located; (iii) data distribution and exchange fees; and (iv) telephone, internet and other communications costs. Data centers and communications expenses were $2.4 million for the three months ended June 30, 2008, as compared to $1.5 million for the three months ended June 30, 2007, an increase of $889,000, or 60%. This increase was due primarily to a $691,000 increase in exchange fees and a $182,000 increase in co-location costs. The increase in exchange fees resulted primarily from the classification as revenue, beginning July 1, 2007, of certain fees charged to customers, which were recorded as an offset to data centers and communications expense during the three months ended June 30, 2007.

Advertising – Advertising expenses are composed of marketing programs, primarily: advertising in various media, including direct mail, television and print media; account opening kits and related postage; brochures; and other promotional items, including exhibit costs for industry events. Advertising expenses for the three months ended June 30, 2008 were $1.5 million, as compared to $1.6 million for the three months ended June 30, 2007, a decrease of $86,000, or 5%, due primarily to decreased media placement. Our advertising expenses in future quarters may vary significantly as a result of several factors. Those factors include the success of current and future sales and marketing campaigns and strategies, departmental, third-party service and other structural or strategy changes that may occur over time and from time to time, the release of new products, features and functions, and the evolution of our sales force.

Professional Services – Professional services expenses are composed of fees for legal, accounting, tax, and other professional and consulting services. Professional services expenses were approximately $159,000 for the three months ended June 30, 2008, as compared to $204,000 for the three months ended June 30, 2007, a decrease of $45,000, or 22%, due to decreases in legal fees of $107,000 and accounting and tax fees of $48,000, partially offset by increases in consulting expenses of $109,000. Professional services expenses for the three months ended June 30, 2008 include a $625,000 recovery of previously-expensed legal fees as a result of a final settlement with our primary director and officer liability insurance carrier pertaining to the Taffazoli/zum Tobel litigation. Professional services expenses for the three months ended June 30, 2007 include a $723,000 recovery of previously-expensed legal fees in connection with the Andrew Allen litigation. See Note 11 – COMMITMENTS AND CONTINGENCIES – Litigation and Claims in ITEM 1. FINANCIAL STATEMENTS of PART I of this report for more details about the Andrew Allen and Tafazzoli/zum Tobel litigation.

Occupancy and Equipment – Occupancy and equipment expenses include rent, utilities, property taxes, repairs, maintenance and other expenses pertaining to our office space. Occupancy and equipment expenses were $755,000 for the three months ended June 30, 2008, as compared to $689,000 for the three months ended June 30, 2007, an increase of $66,000, or 10%, due primarily to increases in maintenance costs and rent.

Depreciation and Amortization – Depreciation and amortization expenses consist primarily of depreciation on property and equipment. Depreciation and amortization expenses were $1.1 million for the three months ended June 30, 2008, as compared to $1.0 million for the three months ended June 30, 2007, an increase of $74,000 or 7%. Depreciation expense may increase in the future based upon the level of capital expenditures we deem necessary to support the growth of our business and to enhance and improve the quality and reliability of our brokerage services. See Liquidity and Capital Resources below.

Other – Other expenses include insurance, regulatory fees and related costs, employee travel and entertainment, settlements for legal matters, costs related to training workshops, software maintenance, public company expenses, supplies, postage, exchange memberships, customer debits and errors, bank charges and other administrative expenses. Other expenses were $1.4 million for the three months ended June 30, 2008, as compared to $1.6 million for the three months ended June 30, 2007, a decrease of $219,000, or 14%. The variance was a result primarily of a $450,000 reserve for a regulatory matter during the second quarter of 2007, partially offset by a $70,000 reserve for FINRA short interest reporting and short sale affirmation enforcement proceedings, increased customer debits and errors of $51,000, training and workshops of $46,000, travel and entertainment of $43,000, and supplies of $40,000 during the second quarter of 2008.

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Six Months Ended June 30, 2008 and 2007

Net revenues were $77.3 million for the six months ended June 30, 2008, as compared to $71.1 million for the six months ended June 30, 2007, an increase of $6.2 million, or 9%. The primary reasons for this growth were increased brokerage commissions and fees of approximately $13.7 million, or 31%, as a result of higher trade volume related mostly to growing our brokerage account base and higher market volatility, partially offset by a decrease in net interest income of $7.4 million, or 34%, as a result of decreases in interest rates, partially offset by higher aggregate account balances as a result of net account growth.

Net income was approximately $14.3 million for the six months ended June 30, 2008, as compared to $16.3 million for the six months ended June 30, 2007, a decrease of $2.0 million, or 12%, due primarily to a decrease in net interest income of $7.4 million, and our year-over-year increase in expenses of $8.8 million, partially offset by our year-over-year increase in brokerage commissions and fees of $13.7 million.

Income before income taxes was $23.5 million (30% of net revenues) for the six months ended June 30, 2008, as compared to $26.2 million (37% of net revenues) for the six months ended June 30, 2007, a decrease of $2.6 million, or 10%. The $2.6 million decrease in income before income taxes was due primarily to a decrease in net interest income of $7.4 million, and increases in clearing and execution costs of $3.4 million, employee compensation and benefits (which includes stock-based compensation) of $2.8 million, data centers and communications costs of $1.6 million, professional fees of $425,000 and, to a lesser extent, increases in other expenses, partially offset by an increase in brokerage commissions and fees of $13.7 million.

During the six months ended June 30, 2008, we recorded an income tax provision of $9.2 million based upon our current estimated annual effective income tax rate of approximately 39%. During the six months ended June 30, 2007, we recorded an income tax provision of $9.8 million based upon our then-estimated annual effective income tax rate of approximately 38%. The increase in our estimated annual effective income tax rate is due primarily to the absence of the research and development tax credit, which has currently not been extended by Congress, during the six months ended June 30, 2008. See Income Taxes below.

Revenues

Brokerage Commissions and Fees – For the six months ended June 30, 2008, brokerage commissions and fees were approximately $58.8 million, as compared to $45.0 million for the six months ended June 30, 2007. This $13.7 million, or 31%, increase was due to increased brokerage commissions of $11.4 million from higher trading volume related mostly to growing our brokerage customer account base and higher market volatility, exchange fee revenue of $1.3 million (resulting primarily from a change in classification as revenue, beginning July 1, 2007, of certain exchange fees previously recorded as an offset to expenses), and increased platform fees of $1.2 million related to account growth.

Interest Income – For the six months ended June 30, 2008, interest income was $16.3 million, as compared to approximately $24.1 million for the six months ended June 30, 2007. This $7.8 million, or 32%, decrease was due primarily to lower interest rates, partially offset by higher aggregate account balances as a result of net account growth. During the first half of 2008, the federal funds target rate of interest was decreased four times, from 4.25% to 2.00% (where it remains as of June 30, 2008 and through the date of the filing of this report). The average federal funds target rate of interest was 2.65% and 5.25% during the six months ended June 30, 2008 and 2007, respectively. These decreases resulted in decreases in the amounts we earned on our clients’ cash account balances and the amounts we charged our clients for margin lending. We estimate, based on the size and nature of our customer assets as of June 30, 2008, that each basis point increase or decrease in the federal funds target rate of interest will impact our annual net income by approximately $65,000. Interest income for future periods may be materially affected by further decreases, increases or “no actions” regarding the federal funds target rate of interest and the extent, if any, by which our customer cash account balances increase or decrease, as well as any decisions we may make to provide more or less favorable debit or credit interest rates to our customers.

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Brokerage Interest Expense – For the six months ended June 30, 2008, brokerage interest expense was $2.1 million, as compared to $2.4 million for the six months ended June 30, 2007. This $346,000, or 14%, decrease was due primarily to lower interest rates offered to brokerage customers, partially offset by higher aggregate account balances as a result of net account growth. During the six months ended June 30, 2008, the average annual credit interest rate paid to our equities customers on credit balances in excess of $10,000, decreased 31% to approximately .86%, as compared to approximately 1.25% during the six months ended June 30, 2007. As of June 30, 2008 and through the date of this report, our equities customers earned interest at the rate of 0.50% per annum on the portion, if any, of their cash balances in excess of $10,000, and futures and forex customers earned no interest on their cash balances. Factors that will affect brokerage interest expense in the future include: the growth, and mix of growth, of our brokerage customer base in equities, futures and forex; average assets per account and the portion of account assets held in cash; and future decisions concerning credit or debit interest rates offered to our equities, futures and forex customers.

Subscription Fees and Other – Subscription fees and other revenues were approximately $4.3 million during the six months ended June 30, 2008, as compared to $4.4 million during the six months ended June 30, 2007, a decrease of approximately $158,000, or 4%, due primarily to a decrease in subscription fees of $144,000 and a decrease in royalties, commissions and other revenue of $14,000. The decrease in subscription fees was due primarily to a decrease in the number of subscribers. Subscription services and legacy customer software products have not been marketed since 2000, so it is likely that subscription terminations will continue to exceed new subscriptions.

Expenses

Employee Compensation and Benefits – Employee compensation and benefits expenses were $20.0 million for the six months ended June 30, 2008 as compared to $17.2 million for the six months ended June 30, 2007, an increase of $2.8 million, or 16%. This increase was due primarily to increases in stock-based compensation of $1.5 million, wages paid to employees of $1.3 million, and sales commissions of $371,000. The increase in stock-based compensation is due primarily to $1.2 million of expense relating to accelerated vesting of certain officer and director stock options that occurred as a result of the collective beneficial ownership of the company by the company’s co-founders falling below 25%. See Note 2 – STOCK-BASED COMPENSATION –Vesting Acceleration of Certain Options in ITEM 1. FINANCIAL STATEMENTS of PART I of this report for additional discussion regarding this acceleration of vesting. The increase in wages was due to annual merit increases and increased headcount. During the six months ended June 30, 2008, there was an average of 329 full-time equivalent employees, as compared to 307 full-time equivalent employees during the six months ended June 30, 2007. Employee compensation and benefits expenses are anticipated to increase during the remainder of 2008 as a result of planned additions to employee headcount to support our business operations.

Clearing and Execution – Clearing and execution expenses were approximately $18.0 million for the six months ended June 30, 2008, as compared to $14.7 million for the six months ended June 30, 2007, an increase of approximately $3.4 million, or 23%, as a result of higher trade volume by our customers that resulted from the growth of accounts and higher market volatility. Clearing and execution costs as a percentage of brokerage commissions and fees were 31% and 33%, during the six months ended June 30, 2008 and 2007, respectively.

Data Centers and Communications – Data centers and communications expenses were approximately $4.8 million for the six months ended June 30, 2008, as compared to $3.2 million for the six months ended June 30, 2007, an increase of $1.6 million, or 51%. The increase was due primarily to increases in exchange fees of $1.3 million, co-location costs of $254,000, and circuits to connect our server farms to data providers and electronic marketplaces of $101,000. The increase in exchange fees resulted primarily from the classification as revenue, beginning July 1, 2007, of certain fees charged to customers, which were recorded as an offset to data centers and communications expense during the six months ended June 30, 2007.

Advertising – Advertising expenses for the six months ended June 30, 2008 were $2.8 million, as compared to $2.7 million for the six months ended June 30, 2007, an increase of $133,000, or 5%, due primarily to an increase in agency fees of $196,000 partially offset by media placement of $68,000. Our advertising expenses in future quarters may vary significantly as a result of several factors. Those factors include the success of current and future sales and marketing campaigns and strategies, departmental, third-party service and other structural or strategy changes that may occur over time and from time to time, and the evolution of our sales force.

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Professional Services – Professional services expenses for the six months ended June 30, 2008 were $1.8 million, as compared to $1.4 million for the six months ended June 30, 2007, an increase of $425,000, or 31%. The increase is due primarily to increases in legal expenses of $279,000 and consulting expenses of $173,000. Professional services expenses for the six months ended June 30, 2008 include an offset to expenses of $625,000 as a result of a final settlement with our primary director and officer liability insurance carrier pertaining to the Taffazoli/zum Tobel litigation. Professional services expenses for the six months ended June 30, 2007 include an offset to expenses of $723,000 for a reimbursement of legal fees in connection with the Andrew Allen litigation. See Note 11 – COMMITMENTS AND CONTINGENCIES – Litigation and Claims in ITEM 1. FINANCIAL STATEMENTS of PART I of this report for more details about the Andrew Allen case and the Tafazzoli/zum Tobel case.

Occupancy and Equipment – Occupancy and equipment expenses were $1.5 million for the six months ended June 30, 2008, as compared to $1.4 million for the six months ended June 30, 2007, an increase of $121,000, or 9%, due primarily to increased rent and maintenance costs.

Depreciation and Amortization – Depreciation and amortization expenses were $2.0 million for both the six months ended June 30, 2008 and June 30, 2007, an increase of $26,000, or 1%. Depreciation expense may continue to increase based upon the level of capital expenditures we deem necessary to support the growth of our business and to enhance and improve the quality and reliability of our brokerage services. See Liquidity and Capital Resources below.

Other – Other expenses were $2.8 million for the six months ended June 30, 2008, as compared to $2.5 million for the six months ended June 30, 2007, an increase of $286,000, or 11%. This increase was due primarily to increases in settlements for legal matters of $159,000, customer debits and errors of $156,000, supplies and postage of $96,000, travel and entertainment of $72,000, and a reserve for FINRA short interest reporting and short sale affirmation of $70,000, partially offset by a $450,000 reserve, during the second quarter of 2007, for a regulatory matter relating to NASD OATS reporting , which itself was partially offset during the second quarter of 2007 by our decision to retain and cancel approximately $120,000 potentially owed to a third party pursuant to our contractual rights against that third party.

Variability of Quarterly Results

The operating results for any quarter are not necessarily indicative of results for any future period or for the full year. Our quarterly revenues and operating results have varied in the past, and are likely to vary in the future. Such fluctuations may result in volatility in the price of our common stock. For information regarding the risks related to the variability of quarterly results, see “ITEM 1A. RISK FACTORS” of PART I of the Annual Report on Form 10-K of TradeStation Group for the year ended December 31, 2007 and “ITEM 1A. RISK FACTORS” of PART II of the Quarterly Report on Form 10-Q of TradeStation Group for the quarter ended March 31, 2008 and “ITEM 1A. RISK FACTORS” of PART II of this report.

Income Taxes

During the three months ended June 30, 2008, we recorded an income tax provision of $3.9 million based upon our current estimated annual effective income tax rate of approximately 39%. During the three months ended June 30, 2007, we recorded an income tax provision of $4.8 million based upon our then estimated annual effective income tax rate of approximately 38%. The increase in our estimated annual effective income tax rate was due primarily to the absence of the research and development credit, which has currently not been extended by Congress, during the three months ended June 30, 2008.

As of June 30, 2008, for financial reporting purposes, we estimate that we have available for federal income tax purposes total net operating loss carryforwards and income tax credit carryforwards of approximately $1.4 million and $124,000, respectively. The net operating loss carryforwards expire in 2019 and the tax credits expire between 2010 and 2019. These amounts are subject to annual usage limitations of approximately $545,000. These limitations are cumulative to the extent they are not utilized in any year.

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We adopted the provisions of FIN 48 effective January 1, 2007. Such adoption did not require any cumulative effect adjustments to beginning retained earnings and did not have a material effect on our consolidated financial position, results of operations or cash flows.

See Note 12 – INCOME TAXES in ITEM 1. FINANCIAL STATEMENTS of PART I of this report for additional discussion of income taxes.

Liquidity and Capital Resources

As of June 30, 2008, we had cash and cash equivalents of approximately $126.7 million, of which $1.2 million was restricted in support of a facility lease. On July 2, 2008, as a result of TradeStation Securities’ June 30, 2008 month-end calculation under Rule 15c3-3 of the Securities Exchange Act of 1934 (see below), $14.5 million was transferred from cash and cash equivalents to cash segregated in compliance with federal regulations. We had marketable securities of approximately $8.9 million at June 30, 2008, all of which can be tendered for sale upon notice (generally no longer than seven days) to the remarketing agent.

As of June 30, 2008, TradeStation Securities had: $517.3 million of cash segregated in compliance with federal regulations in special reserve bank accounts for the exclusive benefit of customers under Rule 15c3-3 of the Securities Exchange Act of 1934 and other regulations; receivables from brokerage customers of $97.8 million; and receivables from brokers, dealers, clearing organizations and clearing agents of $22.4 million. Client margin loans are demand loan obligations secured in part by cash and/or readily marketable securities. Receivables from and payables to brokers, dealers, clearing organizations and clearing agents represent primarily current open transactions which usually settle, or can be closed out, within a few business days.

Liquidity needs relating to client trading and margin borrowing activities are met primarily through cash balances in brokerage client accounts, which were $648.3 million at June 30, 2008. Management believes that brokerage cash balances and operating earnings will continue to be the primary source of liquidity for TradeStation Securities in the future.

TradeStation Securities is subject to the net capital requirements of the SEC’s Uniform Net Capital Rule (Rule 15c3-1) and the CFTC’s financial requirement (Regulation 1.17). TradeStation Securities calculates net capital requirements using the “alternative method,” which requires the maintenance of minimum net capital, as defined by the rules, equal to the greater of (i) $250,000 and (ii) 2.0% of aggregate customer debit balances. Customer debit items are a function of customer margin receivables and may fluctuate significantly, resulting in a significant fluctuation in our net capital requirements. At June 30, 2008, TradeStation Securities had net capital of approximately $84.7 million (64.6% of aggregate debit items), which was approximately $82.1 million in excess of its net capital requirement of approximately $2.6 million.

In addition to net capital requirements, as a self-clearing broker-dealer TradeStation Securities is subject to DTCC, OCC, and other cash deposit requirements, which are and may continue to be large in relation to the company’s total liquid assets, and which may fluctuate significantly from time to time based upon the nature and size of TradeStation Securities’ active trader clients’ securities trading activity. As of June 30, 2008, we had interest-bearing security deposits and short-term treasury bills totaling $25.0 million with clearing organizations for the self-clearing of equities and standardized equity option trades.

As of June 30, 2008, we have no long-term debt obligations or capital lease obligations. A summary of our operating lease obligations and minimum purchase obligations (primarily related to back-office systems and telecommunications services) is as follows:

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We have no operating lease obligations or minimum purchase obligations extending beyond 2012.

In addition to the purchase obligations set forth in the table above, we currently anticipate, in order to provide for additional growth of our brokerage business (there being no assurance additional growth will occur), capital expenditures of approximately $2.5 million for the remainder of 2008. These capital expenditures are primarily for the purchase of computer hardware and to support the growth of our data server farms and back-office systems to support our business. These expenditures are expected to be funded through operating cash flows, capital leases, or a combination of the two.

In October 2006, our board of directors authorized, and we announced, the use of up to $60 million of our available and unrestricted cash, over a four-year period, to repurchase shares of our common stock in the open market or through privately-negotiated transactions. The stock repurchases are authorized to be made pursuant to a Rule 10b5-1 plan. The four-year period commenced on November 13, 2006 and ends on November 12, 2010. Pursuant to the buyback plan, $1.25 million of company cash during each full calendar month (and a prorated amount during the first and last months) of the four-year period (i.e., $15 million per 12-month period and $60 million for the four-year period) has been authorized to be used to purchase company shares at prevailing prices, subject to compliance with applicable securities laws, rules and regulations, including Rules 10b5-1 and 10b-18. The buyback plan does not obligate us to acquire any specific number of shares in any period, and may be modified, suspended, extended or discontinued at any time without prior notice. For the three months ended June 30, 2008, we used approximately $3.75 million to purchase 383,660 shares of our common stock at an average price of $9.77 per share. During the six months ended June 30, 2008, we used approximately $7.5 million to purchase 736,285 shares of our common stock at an average price of $10.18 per share. Since commencement of this stock buyback plan on November 13, 2006, through June 30, 2008, we used approximately $24.5 million to purchase 2,112,750 shares of our common stock at an average price of $11.59 per share. All shares purchased have been retired. See ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS – (c) Share Repurchases in PART II – OTHER INFORMATION of this report.

We anticipate that our available cash resources and cash flows from operations will be sufficient to meet our presently anticipated working capital and capital expenditure requirements through at least the next twelve months.

Net cash provided by operating activities totaled approximately $31.4 million during the six months ended June 30, 2008, as compared to net cash provided by operating activities of $12.8 million during the six months ended June 30, 2007. Net cash provided by operating activities during the six months ended June 30, 2008 of $31.4 million was due primarily to: net income as adjusted for non-cash items; increases in payables to brokerage customers and in accounts payable; decreases in receivables from brokers, dealers, clearing organizations and clearing agents, and in other assets. This was partially offset by increases in cash segregated in compliance with federal regulations, receivables from brokerage customers, prepaid income taxes, and deposits with clearing organizations, and by decreases in payables to brokers, dealers and clearing organizations and accrued expenses. Net cash provided by operating activities during the six months ended June 30, 2007 of $12.8 million was due primarily to net income and adjustments for non-cash items, partially offset by timing differences related to a net increase in net brokerage customer assets and liabilities including timing differences related to funding cash segregated in compliance with federal regulations ($3.2 million transferred from cash segregated in compliance with federal regulations to cash and cash equivalents on July 2, 2007, as opposed to $7.6 million transferred to cash and cash equivalents from cash segregated in compliance with federal regulations on January 3, 2007), increase in other assets, and a decrease in accrued expenses and accounts payable.

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Investing activities used cash of $1.7 million and $1.3 million during the six months ended June 30, 2008 and 2007, respectively. Net cash used in investing activities during the six months ended June 30, 2008 and 2007 was primarily for capital expenditures consisting of computer hardware to support the growth of our data server farms.

Financing activities used cash of $6.8 million during the six months ended June 30, 2008 and used cash of $6.2 million during the six months ended June 30, 2007. Net cash used in financing activities during the six months ended June 30, 2008 of $6.8 million was due primarily to approximately $7.5 million used for the repurchase of company shares, partially offset by $509,000 of proceeds from the issuance of common stock related to the exercise of stock options from our incentive stock plans (and, to a lesser extent, common stock issued at a discount under the company’s employee stock purchase plan) and $171,000 related to excess tax benefits from stock option exercises under our incentive stock plans. Net cash used in financing activities during the six months ended June 30, 2007 of $6.2 million was due primarily to $7.5 million used for the repurchase of our shares of common stock, partially offset by $798,000 of proceeds from the issuance of common stock from the exercise of stock options (and, to a lesser extent, common stock issued at a discount under our employee stock purchase plan), and $468,000 of excess tax benefits from the exercise of stock options under our incentive stock plans.

Recently Issued Accounting Standards

In March 2008, the Financial Accounting Standards Board (FASB) issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities, an amendment of FASB Statement No. 133. SFAS No. 161 applies to all derivative instruments and related hedged items accounted for under SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, and requires entities to provide greater transparency about (i) how and why an entity uses derivative instruments, (ii) how derivative instruments and related hedged items are accounted for under SFAS No. 133 and its related interpretations, and (iii) how derivative instruments and related hedged items affect an entity’s financial position, results of operations, and cash flows. SFAS No. 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. We believe that the adoption of SFAS No. 161, effective January 1, 2009, will not have a material impact on our consolidated financial position, results of operations or cash flows.

In December 2007, the FASB issued SFAS No. 141R, which is a revision of SFAS No. 141, Business Combinations. SFAS No. 141R applies to all business entities and to transactions or other events in which an entity obtains control of one or more businesses. SFAS No. 141R revises in various areas and circumstances methods of accounting for the costs of business combinations and various components thereof. SFAS No. 141R is effective prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. Therefore, for us, it will be effective for any business combination made on or after January 1, 2009.

In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities. SFAS No. 159 allows entities to voluntarily choose, at specified election dates, to measure at fair value many financial instruments and certain other items that are similar to financial instruments. The election is made on an instrument-by-instrument basis and is irrevocable. If the fair value option is elected for an instrument, the statement specifies that all subsequent changes in fair value for that instrument shall be reported in earnings. The statement is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007. Our adoption of SFAS No. 159, effective January 1, 2008, did not have a material impact on our consolidated financial position, results of operations or cash flows during the six months ended June 30, 2008.

In September 2006, the FASB issued Statement SFAS No. 157, Fair Value Measurements. SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. This statement addresses how to calculate fair value measurements required or permitted under other accounting

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pronouncements. SFAS No. 157 became effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim statements within those years. Our adoption of SFAS No. 157, effective January 1, 2008, did not have a material impact on our consolidated financial position, results of operations or cash flows during the six months ended June 30, 2008.

Off-Balance Sheet Arrangements

In the ordinary course of business, there are various contingencies which are not reflected in the consolidated financial statements. In addition to the operating leases and purchase commitments discussed above, these include customer activities involving the execution, settlement and financing of various customer securities and futures transactions. These customer activities may expose the company to off-balance sheet credit risk in the event the customers are unable to fulfill their contractual obligations.

Nearly all TradeStation Securities customer accounts are margin accounts. In margin transactions, TradeStation Securities may be obligated for credit extended to its customers by its clearing agents that are collateralized by cash and securities in the customers’ accounts with those clearing agents. In connection with securities activities, TradeStation Securities also executes customer transactions involving the sale of securities not yet purchased (“short sales”), all of which are transacted on a margin basis subject to federal, self-regulatory organization and individual exchange regulations and TradeStation Securities’ and its clearing agents’ internal policies. Additionally, TradeStation Securities may be obligated for credit extended to its customers by its clearing agents for futures transactions that are collateralized by cash and futures positions in the customers’ accounts with those clearing agents. In all cases, such transactions may expose TradeStation Securities to significant off-balance sheet credit risk in the event customer collateral is not sufficient to fully cover losses that customers may incur. In the event customers fail to satisfy their obligations, TradeStation Securities may be required to purchase or sell financial instruments at prevailing market prices to fulfill the customers’ obligations.

TradeStation Securities seeks to manage the risks associated with its customers’ activities by requiring customers to maintain collateral in their margin accounts in compliance with various regulatory requirements, internal requirements, and the requirements of clearing agents. TradeStation Securities and its clearing agents monitor required margin levels on an intra-day basis and, pursuant to such guidelines, require the customers to timely deposit additional collateral or to reduce positions when necessary.

TradeStation Securities provides guarantees to its clearing organization and exchanges under their standard membership agreements, which require members to guarantee the performance of other members. Under the agreements, if another member becomes unable to satisfy its obligations to the clearing organization and exchanges, other members would be required to meet shortfalls. TradeStation Securities’ liability under these arrangements is not quantifiable and may exceed the cash and securities it has posted as collateral. However, management believes that the possibility of the company being required to make payments under these arrangements is remote. Accordingly, no liability has been recorded for these potential events.

Market risk generally represents the risk of loss that may result from the potential change in the value of a financial instrument as a result of fluctuations in interest rates or market prices. We have established policies, procedures and internal processes governing our management of market risks in the normal course of our business operations. We do not hold any market risk sensitive instruments for trading purposes.

TradeStation Securities seeks to manage the risks associated with our customers’ activities by requiring customers to maintain margin collateral and reduce concentrated positions in compliance with regulatory and internal guidelines. TradeStation Securities monitors required margin levels on an intra-day basis and, pursuant to such guidelines, requires customers to deposit additional collateral, or to reduce positions, when necessary.

As a self-clearing broker-dealer, TradeStation Securities holds interest-earning assets, mainly customer funds required to be segregated in compliance with federal regulations. These funds totaled $517.3 million at June 30, 2008. Interest-earning assets are financed primarily by short-term interest-bearing liabilities, which totaled $648.3 million at June 30, 2008, in the form of customer

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cash balances. In addition to earning interest on the customer funds segregated in compliance with federal regulations, TradeStation Securities earns a net interest spread on the difference between amounts earned on customer margin loans and amounts paid on customer cash balances. TradeStation Securities also earns interest from interest revenue-sharing arrangements with its clearing agents. Changes in interest rates also affect the interest earned on our cash and cash equivalents, marketable securities and security deposits. To reduce this interest rate risk, we are currently invested in investments with short maturities or investments that can be tendered for sale upon notice of no longer than seven days. As of June 30, 2008, our cash and cash equivalents consisted primarily of interest-bearing cash deposits and money market funds, our marketable securities consisted primarily of federal tax-exempt variable rate demand note securities that are secured by a letter of credit from Bank of America, and our security deposits consisted primarily of treasury bills and interest-bearing cash deposits.

We estimate, based on the size and nature of our customer assets as of June 30, 2008 (and assuming for these purposes that the size and nature does not change), that each basis point increase or decrease in interest rates results in an annual impact of approximately $65,000 to our net income.

TradeStation Securities seeks to manage risks associated with its securities borrowing activities by requiring credit approvals for counterparties, by monitoring the collateral values for securities borrowed on a daily basis and by obtaining additional collateral as needed. See Note 11 – COMMITMENTS AND CONTINGENCIES – General Contingencies and Guarantees in ITEM 1. FINANCIAL STATEMENTS of PART I of this report.

Our revenues and financial instruments are denominated primarily in U.S. dollars, and we do not invest in derivative financial instruments.

As of the end of the period covered by this report, an evaluation of the effectiveness of the design and operation of the company’s disclosure controls and procedures was made under the supervision and with the participation of the company’s management, including the Chief Executive Officer and the Chief Financial Officer. Based on that evaluation, the company’s management, including the Chief Executive Officer and the Chief Financial Officer, concluded that the company’s disclosure controls and procedures were effective at the reasonable assurance level as of the end of the period covered by this report. A system of controls, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the system of controls are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected.

There have been no changes in the company’s internal control over financial reporting that occurred during the second quarter of 2008 that have materially affected, or are reasonably likely to materially affect, the company’s internal control over financial reporting.

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PART II – OTHER INFORMATION

We disclosed in both our Annual Report on Form 10-K for the fiscal year ended December 31, 2007 and in our Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2008 that, with respect to the 2003 lawsuit brought by family partnerships owned and controlled by Farshid Tafazzoli and E. Steven zum Tobel against us, two of our executive officers, two former executive officers, family partnerships owned and controlled by the two former executive officers, and one of our independent directors, and the 2003 lawsuit brought by Andrew A. Allen Family Limited Partnership (owned and controlled by Andrew A. Allen) against us and three former executive officers, judicial rulings and jury verdicts found in favor of all defendants on all claims, i.e., found no liability on the part of any of the defendants and that both cases were on appeal. The Tafazzoli/zum Tobel case was settled in the 2008 second quarter and, pursuant to the settlement agreement dated June 9, 2008, the appeal was dismissed with prejudice in exchange for our agreeing not to pursue recovery of attorneys’ fees. The Allen case was settled in the 2008 third quarter and, pursuant to the settlement agreement dated July 23, 2008, the appeal was dismissed with prejudice in exchange for a payment from Allen to us and our agreeing not to pursue recovery of attorneys’ fees.

We also reached, with respect to all three litigations, a final settlement with our primary director and officer liability insurance carrier for a final payment to us of $625,000 (plus payment of reasonable legal fees and costs incurred but not yet reimbursed relating to the Allen case through the effective date of the settlement agreement with the insurance carrier). The $625,000 settlement with our insurance carrier was recorded as a recovery of professional services in the accompanying consolidated statements of income for the three and six months ended June 30, 2008.

Also see Note 11 – COMMITMENTS AND CONTINGENCIES – Litigation and Claims in ITEM 1. FINANCIAL STATEMENTS of PART I of this report for more detail about these lawsuits and other proceedings.

Subject to the items discussed below, there have been no material changes in risk factors during the second quarter of 2008 from those previously discussed in ITEM 1A. RISK FACTORS of PART I of the Annual Report on Form 10-K of TradeStation Group for the year ended December 31, 2007 and “ITEM 1A. RISK FACTORS” of PART II of the Quarterly Report on Form 10-Q of TradeStation Group for the quarter ended March 31, 2008. In reading and evaluating the information set forth in this report, in addition to considering and evaluating issues, uncertainties and risk factors discussed in PART I of this report and the items discussed below, we refer you to the issues, uncertainties and risk factors disclosed in our Annual Report on Form 10-K for the year ended December 31, 2007 and our Quarterly Report on Form 10-Q for the quarter ended March 31, 2008. The following is an update to the risk factors reported in our Annual Report on Form 10-K for the year ended December 31, 2007 and our Quarterly Report on Form 10-Q for the quarter ended March 31, 2008 due to events or conditions during 2008:

Attrition of Customer Accounts and Failure to Maintain or Increase the Rate of Growth of Gross New Account Additions Could Materially Adversely Affect Our Operating Results

We consider an account to be inactive (and exclude it when counting total brokerage accounts) when it has less than a $200 balance and has had no activity for 180 consecutive days. Using this method, our current indications are that customer account attrition will be significantly higher, and net account growth may well be significantly lower, in the third quarter of 2008. It is also possible that our account attrition may be higher, and that net account growth may be lower, in the 2008 fourth quarter. While there is no way to know for certain the specific reasons for these current indications concerning net account growth (which is determined by the number, if any, that gross new account additions in a quarter exceed our customer account attrition in that quarter), we believe that the principal contributing factors include recent market conditions, recent turnover in our sales department, and reaction by some of our customers to system outages that occurred in December 2007 and January 2008, and there may be other reasons or factors. Our failure or inability to address the underlying issues or causes relating to increased attrition and a decrease in net account growth will likely result in decreased net revenues and net income.

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Systems Failures May Result In Our Inability To Deliver Accurately, On Time, Or At All, Important And Time-Sensitive Services To Our Customers

The online electronic trading platform we provide to our customers is based upon the integration of our sophisticated front-end software technology with our equally-sophisticated, Internet-based server farm technology. Our server farm technology is the foundation upon which online trading customers receive real-time market data and place buy and sell orders. However, in order for this technology to provide a live, effective, real-time trading platform, it requires integration with real-time market data, which are currently provided directly by the exchanges or by systems of independent third-party market data vendors or other sources (who obtain the data directly from the exchanges or, for forex, from inter-bank markets), the electronic order book systems of ECNs, other liquidity providers and electronic systems offered by the exchanges, the clearing and back-office systems we license from SunGard for self-clearance and of the clearance agents we use for trades that we do not self-clear, and the forex deal order placement, settlement and back-office systems of or licensed to the forex dealer firm which is responsible for all of our customers’ forex trades. Accordingly, our ability to offer a platform that enables the development, testing and automation of trading strategies and the placement, execution, clearance and settlement of buy and sell orders depends heavily on the effectiveness, integrity, reliability and consistent performance of all of these systems and technologies. In particular, the stress that is placed on these systems during peak trading times, or upon increases by the exchanges or other market centers of the volume or capacity of data sent to our systems, could cause one or more of these systems to operate too slowly or fail. Outages and other system failures may also be caused by natural disasters and other events and circumstances beyond our control. Also, we do not maintain a seamless, redundant back-up system to our order execution systems, which could materially intensify the negative consequences of any such difficulties, outages, errors or failures. Any major system failure or outage (or series of frequent failures or outages), regardless of the cause, could result in the issuance of large credit amounts to customers, loss of accounts, reduced trading activity, loss of or diminished reputation and recognition in the industry, increased monetary costs and diversion of internal resources, regulatory inquiries, fines and sanctions, and other material adverse consequences.

We have had technical difficulties, outages, errors or failures in our electronic and software products, services and systems relating to market data, which do or may affect trading strategy signals and order placement triggers, some of which have occurred as recently as August 2008, July 2008 (on at least two occasions), January 2008 and December 2007. These difficulties, outages, errors or failures may cause severe negative consequences to our business. With respect to the August 2008 technical difficulties, outages, errors and failures, which we experienced with respect to our connections to certain exchanges (and which affected customer orders) and the July 2008 technical difficulties, outages, errors and failures, which we experienced with respect to our market data services (and which affected customer orders relating to them), our failure or inability to address the underlying issues or causes relating to such problems, to adequately correct them and ensure they do not repeat (particularly as the volume of market data received from the exchanges requires increased, improved or different hardware and/or software capacity, technology or company domain know-how), or otherwise to ensure the market data stability, speed and accuracy of the trading platform’s market data services, could materially negatively affect our reputation in the online trader market, causing increased attrition and a decrease in new accounts, and decreased net revenues and net income.

Additionally, as a general matter not applicable only to our company, the integrity of these types of systems may be attacked by persons sometimes referred to as “hackers” who intentionally introduce viruses or other defects to cause damage, inaccuracies or complete failure. Also, “cyberterrorism,” should it occur, may significantly affect people’s willingness to use Internet-based services, particularly ones that involve their personal or company’s assets. See “Our Systems And Our Customers’ Accounts May From Time To Time Be Vulnerable To Security Risks That Could Disrupt Operations, Harm Our Reputation And Expose Us To Potential Liability” in ITEM 1A. RISK FACTORS of PART I of the Annual Report on Form 10-K of TradeStation Group for the year ended December 31, 2007.

During a system outage or failure, our brokerage may be able to take orders by telephone; however, only associates with appropriate licenses, knowledge and experience can accept telephone orders and, given the relatively small size of our trade desk in relation to the number of customers we have and trades we process, an adequate number of associates likely would not be available

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to take customer calls in the event of a system outage or failure. System delays, errors, outages and failures, depending upon how serious and how often they occur, could have a material adverse effect on our business, financial condition, results of operations and prospects. See “The Nature Of Our Business Results In Potential Liability To Customers” in ITEM 1A. RISK FACTORS of PART I of the Annual Report on Form 10-K of TradeStation Group for the year ended December 31, 2007.

Our Recently-launched Flat-fee Commission Offering May Not Result in Significant Account Growth or Revenue Growth

In July 2008, we introduced a flat-fee commission plan (before this, we offered only per-share commission pricing) targeted at individual equities traders who trade higher share volumes per trade. There can be no assurance that the flat-fee commission plan will attract those traders. If they do not see value in our flat-fee commission offering, and we do not attract such new clients, our net account growth and future revenues will fall short of current expectations. In addition, if a significant number of our existing customers who engage in higher volume trades switch from our per-share to our flat-fee commission plan, it is likely that there will be a decrease in net brokerage commissions and fees generated by such customers.

Recent Regulations That Limit Our Ability to Allow Traders to “Short Sell” Securities Could Result in Fewer Trades by Many of Our Customers

In July 2008, the U.S. Securities and Exchange Commission (“SEC”) adopted an emergency rule to limit short selling in the stocks of certain financial companies. The expiration of this rule was recently extended to August 12, 2008. Short sales constitute a significant portion of the transactions engaged in by active traders. If the SEC extends the duration of this rule, broadens its scope to limit short sales on the stock of additional companies, or takes any other action to curtail short sales, such action might negatively impact the number of trades in which our clients engage and, consequently, negatively impact our net revenues.

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(c) Share Repurchases

In October 2006, our board of directors authorized, and we announced, the use of up to $60 million of our available and unrestricted cash, over a four-year period, to repurchase shares of our common stock in the open market or through privately-negotiated transactions. The stock repurchases are authorized to be made pursuant to a Rule 10b5-1 plan. The four-year period commenced on November 13, 2006 and ends on November 12, 2010. Pursuant to the buyback plan, $1.25 million of company cash during each full calendar month (and a prorated amount during the first and last months) of the four-year period (i.e., $15 million per 12-month period and $60 million for the four-year period) has been authorized to be used to purchase company shares at prevailing prices, subject to compliance with applicable securities laws, rules and regulations, including Rules 10b5-1 and 10b-18. The buyback plan does not obligate us to acquire any specific number of shares in any period, and may be modified, suspended, extended or discontinued at any time without prior notice.

The following table sets forth information on our common stock buy-back program for the quarter ended June 30, 2008:

(a) Meeting

On June 12, 2008, TradeStation Group held its 2008 Annual Meeting of Shareholders (the “Annual Meeting”).

(b) Election of Board of Directors

At the Annual Meeting, an election was held for the Board of Directors of TradeStation Group. All seven nominees to the Board of Directors were elected (all of whom were re-elected), receiving the number and percentage of votes for election and abstentions as set forth next to their respective names below:

(c) Other Voting Matters

At the Annual Meeting, a proposal was submitted to the shareholders to ratify the selection of Ernst & Young LLP as the independent registered public accounting firm for TradeStation Group for the fiscal year ending December 31, 2008. This proposal was approved, receiving the votes of the holders of the number of shares of common stock voted in person or by proxy at the Annual Meeting and the percentage of total votes cast as indicated below:

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The following exhibits are filed as part of this report:

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SIGNATURE

Pursuant to the requirements 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.