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The argument that HFTs would likely make is that they improve the efficiency of the marketplace, making for smaller spreads and for more liquidity, making it ea

The argument that HFTs would likely make is that they improve the efficiency of the marketplace, making for smaller spreads and for more liquidity, making it easier for all trades. The counter to both is that HFTs tend to disappear when market stress occurs, thus they fail to provide liquidity when the market needs it the most. I have no dog in the fight - HFTs do seem to have helped lower the cost of trading (along with the internet in general). Whether or not we consider what the article describes as "frontrunning" - I'm not sure. Surely all these firms have bought access to the same Nasdaq direct feed, and have co-located their boxes as close to the Nasdaq servers as possible. I'm guessing the buy side and the sell side are both doing this at this point - either directly or through 3rd parties. My point is that yes, the advantage exists - but is probably getting reduced by the day. Is the retail trader going on SIP getting prayed upon? Probably, but retail traders also make up a small portion of total trades. That's not to say it isn't a problem - but they aren't the major market participants. Mutual funds are probably the biggest losers here - and they are, in turn, owned by individual investors. So there's an argument there that they are hurting individual investors that way. To me the real question the idea that these firms are essentially riskless. I'd agree that has been the case in the past - I've seen reports of HFT firms having something like 300+ winning days. But what happens when the entire market is made of competing bots - will the efficiency the competition essentially take away any advantage that any one player might have, thus making their profit disappear?

kasey_junk 11y ago
The use of the term front-running in this article is completely inaccurate and is unfortunately becoming standard in reporting around HFT. No HFT sees your order before it trades as a result of a latency advantage, and therefore cannot "front run" it (not to mention the fact that even if they did, they do not have a fiduciary duty to you so they can't front run you by definition). Saying you have N number of winning days is largely immaterial as that usually means "trading profit" ie it does not account for the price of doing business and would not be considered profit in other businesses. Also, there are lots of easy to devise schemes for making a little money often, but most of them lose a lot of money occasionally. Finally, HFT profits have already disappeared (at least in the market making space which is where these venue arbitrage volume numbers come from). It is a low margin race to the bottom that is now being propped up via legislation (the sub penny rule in equities).
- wdewind 11y ago
  I really enjoy your comments on HFT threads, kasey. I've learned a lot from them. Thanks.
- inthewoods 11y ago
  "The use of the term front-running in this article is completely inaccurate and is unfortunately becoming standard in reporting around HFT. No HFT sees your order before it trades as a result of a latency advantage, and therefore cannot "front run" it (not to mention the fact that even if they did, they do not have a fiduciary duty to you so they can't front run you by definition)." I don't think the article is saying that they are front running via seeing their order - they are saying that an arbitrage opportunity exists because of the difference in speed of the two data feeds. "Saying you have N number of winning days is largely immaterial as that usually means "trading profit" ie it does not account for the price of doing business and would not be considered profit in other businesses. Also, there are lots of easy to devise schemes for making a little money often, but most of them lose a lot of money occasionally." Oh I agree - of course it doesn't say whether or not are, overall, making money. But that's not the point - they're saying that their systems made money 300+ days in a row. Even if that is a small trading profit, that shouldn't really be statistically possible. But you're right that the numbers may be (and likely are) a PR activity by a given HFT firm as much as anything else. "Finally, HFT profits have already disappeared (at least in the market making space which is where these venue arbitrage volume numbers come from). It is a low margin race to the bottom that is now being propped up via legislation (the sub penny rule in equities)." Interesting - what, specifically, about the sub-penny rule is propping that up?
  - toth 11y ago
    You make an argument that I think a lot of people make implicitly and that I think is worth refuting. The argument is this: "The fact that HFT firms make money 300+ days in a row, means they are not really running any risk (and probably an indication they are up to no good)". What is actually going on is simply that HFT firms tend to make a lot of small uncorrelated bets on the market, each of which has a pretty unimpressive winning percentage. If you make money on 51% of trades, and make one trade per day you'll have a losing day roughly every other day. If you make 100 trades per day it will be much rarer that you have a losing day, and if you make 1000000 trades it will almost never happen. This is simply the law of large numbers, as you increase the number of samples the realized return will converge to the expected return (which is positive), far from statistically impossible.
lordnacho 11y ago
--To me the real question the idea that these firms are essentially riskless. I'd agree that has been the case in the past - I've seen reports of HFT firms having something like 300+ winning days. But what happens when the entire market is made of competing bots - will the efficiency the competition essentially take away any advantage that any one player might have, thus making their profit disappear? The risk is not that the strategy will lose money. The risk is that someone else with better infrastructure comes along and takes ALL the cake. And the infrastructure isn't cheap. It's no different to a restaurant or a clothes shop. You can easily ensure that your price is above cost. What you can't ensure is that people will come, and you'll lose by not being able to do enough trade.

kasey_junk 11y ago

The use of the term front-running in this article is completely inaccurate and is unfortunately becoming standard in reporting around HFT. No HFT sees your order before it trades as a result of a latency advantage, and therefore cannot "front run" it (not to mention the fact that even if they did, they do not have a fiduciary duty to you so they can't front run you by definition). Saying you have N number of winning days is largely immaterial as that usually means "trading profit" ie it does not account for the price of doing business and would not be considered profit in other businesses. Also, there are lots of easy to devise schemes for making a little money often, but most of them lose a lot of money occasionally. Finally, HFT profits have already disappeared (at least in the market making space which is where these venue arbitrage volume numbers come from). It is a low margin race to the bottom that is now being propped up via legislation (the sub penny rule in equities).

wdewind 11y ago
I really enjoy your comments on HFT threads, kasey. I've learned a lot from them. Thanks.
inthewoods 11y ago
"The use of the term front-running in this article is completely inaccurate and is unfortunately becoming standard in reporting around HFT. No HFT sees your order before it trades as a result of a latency advantage, and therefore cannot "front run" it (not to mention the fact that even if they did, they do not have a fiduciary duty to you so they can't front run you by definition)." I don't think the article is saying that they are front running via seeing their order - they are saying that an arbitrage opportunity exists because of the difference in speed of the two data feeds. "Saying you have N number of winning days is largely immaterial as that usually means "trading profit" ie it does not account for the price of doing business and would not be considered profit in other businesses. Also, there are lots of easy to devise schemes for making a little money often, but most of them lose a lot of money occasionally." Oh I agree - of course it doesn't say whether or not are, overall, making money. But that's not the point - they're saying that their systems made money 300+ days in a row. Even if that is a small trading profit, that shouldn't really be statistically possible. But you're right that the numbers may be (and likely are) a PR activity by a given HFT firm as much as anything else. "Finally, HFT profits have already disappeared (at least in the market making space which is where these venue arbitrage volume numbers come from). It is a low margin race to the bottom that is now being propped up via legislation (the sub penny rule in equities)." Interesting - what, specifically, about the sub-penny rule is propping that up?
- toth 11y ago
  You make an argument that I think a lot of people make implicitly and that I think is worth refuting. The argument is this: "The fact that HFT firms make money 300+ days in a row, means they are not really running any risk (and probably an indication they are up to no good)". What is actually going on is simply that HFT firms tend to make a lot of small uncorrelated bets on the market, each of which has a pretty unimpressive winning percentage. If you make money on 51% of trades, and make one trade per day you'll have a losing day roughly every other day. If you make 100 trades per day it will be much rarer that you have a losing day, and if you make 1000000 trades it will almost never happen. This is simply the law of large numbers, as you increase the number of samples the realized return will converge to the expected return (which is positive), far from statistically impossible.

lordnacho 11y ago

--To me the real question the idea that these firms are essentially riskless. I'd agree that has been the case in the past - I've seen reports of HFT firms having something like 300+ winning days. But what happens when the entire market is made of competing bots - will the efficiency the competition essentially take away any advantage that any one player might have, thus making their profit disappear? The risk is not that the strategy will lose money. The risk is that someone else with better infrastructure comes along and takes ALL the cake. And the infrastructure isn't cheap. It's no different to a restaurant or a clothes shop. You can easily ensure that your price is above cost. What you can't ensure is that people will come, and you'll lose by not being able to do enough trade.