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Charlie Munger, vice chairman of Berkshire Hathaway, argues that high-frequency trading is "legalized front-running". I think it is very stupid to allow a sy

by panarky 13y ago

Charlie Munger, vice chairman of Berkshire Hathaway, argues that high-frequency trading is "legalized front-running". I think it is very stupid to allow a system to evolve where half the trading is a bunch of short-term people trying to get information one-millionth of a nano-second ahead of somebody else. It’s legalized front-running; I think it’s basically evil and it should never have been able to reach the size that it did ... why should all of us pay a little group of people to engage in legalized front-running of our orders? http://blogs.barrons.com/stockstowatchtoday/2013/05/03/charlie-munger-hft-is-legalized-front-running/ http://blogs.barrons.com/stockstowatchtoday/2013/05/03/charl...

harryh 13y ago
Charlie, as a guy who regularly buys and sells large volumes of stock, is just talking his book. It would be great for him if he could make large transactions without the stock price responding quickly to this new information. But it would be bad for everyone he transacted with. To make this concrete: Say Charlie & Warren wake up one day and decide Company X is undervalued and that they want to by 5% of it. They start buying stock. In the old pre HFT days it would take a while for the market to notice all this new demand so they could get a lower price. But now HFTs are really good at noticing this so the price rises faster. But wait you say! This is the "front-running" that Charlie is complaining about and that's bad! He's getting screwed! But what if you were one of the people selling to Charlie. Before HFTs made the price faster you were the one getting screwed! There was all this new demand and you didn't know about it yet so you weren't getting as good of a price as you otherwise could have. HFTs aren't front running. They just move the stock to it's true price faster than the humans doing the job before could.
- panarky 13y ago
  HFT front-running isn't about faster price discovery. It's about getting quote data in advance of the consolidated feed and executing trades a few microseconds ahead of the order flow. If I'm buying, the HFT buys ahead of me and resells it to me at a higher price. If I'm selling, the HFT shorts ahead of me and buys from me at a lower price. This isn't about liquidity or efficient markets, it's about gaming the system through preferential access to data and executions. It results in higher prices for buyers and lower prices for sellers.
  - yummyfajitas 13y ago
    It's simply not possible to "short ahead of you". If I place an order via ETrade an HFT doesn't know about it until it hits their FIX/ITCH/OUCH feed (i.e., after it's already on the order book and possibly after it executed). They cannot jump ahead of you except by offering a better price. I wrote a blog post a while back that explains the mechanics of matching engines, you might find it helpful: http://www.chrisstucchio.com/blog/2012/hft_apology.html http://www.chrisstucchio.com/blog/2012/hft_apology.html
    - ezl 13y ago
      chris, you're right in the context of HFT stuff, but of course different matching engines have different rules. There was a big trade for a while where people had different account types. the CBOT matching engine, for example, had customer orders prioritized over marketmaker or firm, so customers actually COULD jump the line. Some companies had customer accounts specifically so they could insert orders in higher priority in the queue (the tradeoff is that customers pay for CXLs, but you can just do the math to see when you should be using which account) to @panarky of the comment, its not on the order of microseconds -- the stuff people used to rip on were flash orders, which are exactly 30 milliseconds. So @panarky has a bit of a point about knowing the order in advance, but its still damn hard to profit from it. The narrative of just front running trades by having order information in front is just not feasible because of the bid-ask spread (the flash orders are to try to help maintain some semblance of BBO consistency across exchanges) So as yummyfajitas says, it's not possible to sell ahead (saying "short ahead" in that way exposes you as not really knowing the trade, btw) or buy ahead in a way that necessarily affects price.
  - golergka 13y ago
    The only way they can do it ahead of you is if you decided to buy or sell in a series of several orders instead of one. So, basically, you're paying for your own decision.
- infinii 13y ago
  "But what if you were one of the people selling to Charlie. Before HFTs made the price faster you were the one getting screwed!" The sellers sell at their ask price (or at my bid), it's their decision to sell. If you offer to sell something to me at $10, I haven't "screwed" you just because someone else was willing to pay $11. It absolutely is front running. Moving the price of a stock to your advantage because you know my intentions is exactly what front running is.
  - yummyfajitas 13y ago
    Front running is when a broker trades in front of his client. The broker has a fiduciary duty to act in his client's best interests. If I trade ahead of you because I can guess your actions, that's just me kicking your ass. Incidentally, if it's acceptable for Charlie Munger to sell in such a way that others will suffer the price impact of his trade, why is it not acceptable for HFTs to do the same thing? In both cases, it's just one trader playing short term games against other traders in order to make money.
    - ezl 13y ago
      brokers often do not fulfill their fiduciary responsibility. It's not uncommon at all and I've seen it happen quite openly in many situations. It's tricky business outside of the pure electronic game.
  - harryh 13y ago
    If we're talking about limit orders than HFTs have no effect at all and might as well not exist. I'm talking about market orders. Also what does it even mean to "Move the price of a stock to your advantage" ?
- foobarqux 13y ago
  You can have the price react quickly without needing to invest in microsecond response times by having auctions every 5 seconds or so as suggested by Larry Harris.
- deleted 13y ago
  [deleted]
- smartbuttcute 13y ago
  The large investment banks actually have a code they can append to their orders so they can jump to the top of the order cue. That is the definition of "front running". I'd like to see a 1 cent tax per share per transaction. That'd dramatically limit HFT.
  - pille 13y ago
    > The large investment banks actually have a code they can append to their orders so they can jump to the top of the order cue. Source? I believe you but I'd like to be able to quote an authority if I'm telling someone else about this. I've gotten into this HFT debate with colleagues, and I'm pretty sure none of us knew about this nifty trick.
    - smartbuttcute 13y ago
      This is where I read about it. http://online.wsj.com/news/articles/SB10000872396390444812704577605840263150860 http://online.wsj.com/news/articles/SB1000087239639044481270...
  - harryh 13y ago
    Why would a tax limit HFT and not just push spreads apart by the amount of the tax?
    - smartbuttcute 13y ago
      I had not heard that idea before. I think it might not work because the HFT people are selling just as much as they are buying.
  - djoldman 13y ago
    Anyone connected to Direct Edge can send an order flagged as HideNotSlide. Everyone is playing on an even field with respect to that order type. HideNotSlide does not cause an order to "jump to the top of the order cue[sic]." It preserves your order entry time at a price that is contra the NBBO if there is not an order at Direct Edge at the NBBO (if there is an order at Direct Edge at the NBBO the incoming HideNotSlide order is filled). I doubt "HFT" would be dramatically limited by a transaction tax. I believe that it would lower trading volume by some amount and widen the bid/ask by some amount. The number of "HFT" firms and their trading habits would look mostly the same though.

by panarky 13y ago

harryh 13y ago

Charlie, as a guy who regularly buys and sells large volumes of stock, is just talking his book. It would be great for him if he could make large transactions without the stock price responding quickly to this new information. But it would be bad for everyone he transacted with. To make this concrete: Say Charlie & Warren wake up one day and decide Company X is undervalued and that they want to by 5% of it. They start buying stock. In the old pre HFT days it would take a while for the market to notice all this new demand so they could get a lower price. But now HFTs are really good at noticing this so the price rises faster. But wait you say! This is the "front-running" that Charlie is complaining about and that's bad! He's getting screwed! But what if you were one of the people selling to Charlie. Before HFTs made the price faster you were the one getting screwed! There was all this new demand and you didn't know about it yet so you weren't getting as good of a price as you otherwise could have. HFTs aren't front running. They just move the stock to it's true price faster than the humans doing the job before could.

panarky 13y ago
HFT front-running isn't about faster price discovery. It's about getting quote data in advance of the consolidated feed and executing trades a few microseconds ahead of the order flow. If I'm buying, the HFT buys ahead of me and resells it to me at a higher price. If I'm selling, the HFT shorts ahead of me and buys from me at a lower price. This isn't about liquidity or efficient markets, it's about gaming the system through preferential access to data and executions. It results in higher prices for buyers and lower prices for sellers.
- yummyfajitas 13y ago
  It's simply not possible to "short ahead of you". If I place an order via ETrade an HFT doesn't know about it until it hits their FIX/ITCH/OUCH feed (i.e., after it's already on the order book and possibly after it executed). They cannot jump ahead of you except by offering a better price. I wrote a blog post a while back that explains the mechanics of matching engines, you might find it helpful: http://www.chrisstucchio.com/blog/2012/hft_apology.html http://www.chrisstucchio.com/blog/2012/hft_apology.html
  - ezl 13y ago
    chris, you're right in the context of HFT stuff, but of course different matching engines have different rules. There was a big trade for a while where people had different account types. the CBOT matching engine, for example, had customer orders prioritized over marketmaker or firm, so customers actually COULD jump the line. Some companies had customer accounts specifically so they could insert orders in higher priority in the queue (the tradeoff is that customers pay for CXLs, but you can just do the math to see when you should be using which account) to @panarky of the comment, its not on the order of microseconds -- the stuff people used to rip on were flash orders, which are exactly 30 milliseconds. So @panarky has a bit of a point about knowing the order in advance, but its still damn hard to profit from it. The narrative of just front running trades by having order information in front is just not feasible because of the bid-ask spread (the flash orders are to try to help maintain some semblance of BBO consistency across exchanges) So as yummyfajitas says, it's not possible to sell ahead (saying "short ahead" in that way exposes you as not really knowing the trade, btw) or buy ahead in a way that necessarily affects price.
- golergka 13y ago
  The only way they can do it ahead of you is if you decided to buy or sell in a series of several orders instead of one. So, basically, you're paying for your own decision.
infinii 13y ago
"But what if you were one of the people selling to Charlie. Before HFTs made the price faster you were the one getting screwed!" The sellers sell at their ask price (or at my bid), it's their decision to sell. If you offer to sell something to me at $10, I haven't "screwed" you just because someone else was willing to pay $11. It absolutely is front running. Moving the price of a stock to your advantage because you know my intentions is exactly what front running is.
- yummyfajitas 13y ago
  Front running is when a broker trades in front of his client. The broker has a fiduciary duty to act in his client's best interests. If I trade ahead of you because I can guess your actions, that's just me kicking your ass. Incidentally, if it's acceptable for Charlie Munger to sell in such a way that others will suffer the price impact of his trade, why is it not acceptable for HFTs to do the same thing? In both cases, it's just one trader playing short term games against other traders in order to make money.
  - ezl 13y ago
    brokers often do not fulfill their fiduciary responsibility. It's not uncommon at all and I've seen it happen quite openly in many situations. It's tricky business outside of the pure electronic game.
- harryh 13y ago
  If we're talking about limit orders than HFTs have no effect at all and might as well not exist. I'm talking about market orders. Also what does it even mean to "Move the price of a stock to your advantage" ?
foobarqux 13y ago
You can have the price react quickly without needing to invest in microsecond response times by having auctions every 5 seconds or so as suggested by Larry Harris.
deleted 13y ago
[deleted]
smartbuttcute 13y ago
The large investment banks actually have a code they can append to their orders so they can jump to the top of the order cue. That is the definition of "front running". I'd like to see a 1 cent tax per share per transaction. That'd dramatically limit HFT.
- pille 13y ago
  > The large investment banks actually have a code they can append to their orders so they can jump to the top of the order cue. Source? I believe you but I'd like to be able to quote an authority if I'm telling someone else about this. I've gotten into this HFT debate with colleagues, and I'm pretty sure none of us knew about this nifty trick.
  - smartbuttcute 13y ago
    This is where I read about it. http://online.wsj.com/news/articles/SB10000872396390444812704577605840263150860 http://online.wsj.com/news/articles/SB1000087239639044481270...
- harryh 13y ago
  Why would a tax limit HFT and not just push spreads apart by the amount of the tax?
  - smartbuttcute 13y ago
    I had not heard that idea before. I think it might not work because the HFT people are selling just as much as they are buying.
- djoldman 13y ago
  Anyone connected to Direct Edge can send an order flagged as HideNotSlide. Everyone is playing on an even field with respect to that order type. HideNotSlide does not cause an order to "jump to the top of the order cue[sic]." It preserves your order entry time at a price that is contra the NBBO if there is not an order at Direct Edge at the NBBO (if there is an order at Direct Edge at the NBBO the incoming HideNotSlide order is filled). I doubt "HFT" would be dramatically limited by a transaction tax. I believe that it would lower trading volume by some amount and widen the bid/ask by some amount. The number of "HFT" firms and their trading habits would look mostly the same though.