3 ms·

> so that when a buyer crosses the spread in Chicago at the same time as a seller crosses the spread in New York, the HFTer can arbitrage the transactions with

by fr0sty 13y ago

> so that when a buyer crosses the spread in Chicago at the same time as a seller crosses the spread in New York, the HFTer can arbitrage the transactions with the foreknowledge that both trades will clear immediately. Can you explain this in more detail? How does the HFT know that someone is crossing the spread? How is the HFT able to transact with two market-crossing orders after the fact? What financial instrument is being traded in Chicago and NY?

AnthonyMouse 13y ago
> How does the HFT know that someone is crossing the spread? So suppose the bid for some particular stock is $100.00 and the ask is $100.10 in both Chicago and New York. They could be different between the two exchanges, but the prices between exchanges will generally be the same or very close to each other at any given time because any significant divergence is an arbitrage opportunity. Now somebody wants to buy some shares of that stock in Chicago, so they cross the spread and put in a bid for $100.10. They immediately buy all the shares in Chicago that are available at $100.10. Now the ask in Chicago will go up because all the shares available for $100.10 in Chicago have been purchased, so now the bid in Chicago is $100.10 and the ask is, say, $100.20. At the same time, in New York, somebody wants to sell some shares of the same stock. So they cross the spread and make shares available for the bid price in New York, which is $100.00. That seller sells to everyone in New York who is willing to pay $100.00, so now the ask in New York is $100.00 and the bid is, say, $99.90. Both the buyer in Chicago and the seller in New York are still willing to buy and sell more shares at $100.10 and $100.00 respectively, i.e. the new bid in Chicago is higher than the new ask in New York. The HFTer sees the new prices before most other traders because their computers are faster and closer to the exchanges. As soon as the buyer at $100.10 learns there is a seller at $100.00 or vice versa, they would get together and trade all the shares they want to trade at some price in that range. But the HFTer learns the pricing information first and, before the buyer and seller find out about each other, the HFTer buys the seller's shares in New York at $100.00 and immediately resells them to the buyer in Chicago at $100.10.
- fr0sty 13y ago
  Assuming things work the way you describe (they don't, but I'll play along) if there is no HFT involved how would you propose that this situation be resolved? There is $.10 of surplus here. Who (if anyone) should get it, how, and why?
  - AnthonyMouse 13y ago
    > Assuming things work the way you describe (they don't, but I'll play along) By all means educate us then. > There is $.10 of surplus here. Who (if anyone) should get it, how, and why? That seems like kind of a philosophical question. Who ever should get any surplus? A better question might be, how can non-HFT traders arrange to capture the surplus currently claimed by HFT? > if there is no HFT involved how would you propose that this situation be resolved? The situation now is that whoever is fastest gets the surplus, even though being milliseconds faster provides very little utility. If you remove all HFTers somehow by magic but the situation remains that whoever is fastest gets the surplus then whichever of the buyer and seller can adjust their prices faster would get it. But suppose we go a different way and have the exchanges sort it out: Automatically send all offers to buy or sell to every exchange where that security is traded and allow the other exchanges several seconds to match bids with asks. The highest bid is always matched with the lowest ask on any exchange and the price paid is the midpoint between them. That seems inherently more efficient than creating a huge financial incentive for private actors to shave invisibly small slices from the amount of time it takes to trade between exchanges.
    - fr0sty 13y ago
      In your example both NY and Chi would be "crossing" the market (bid above offer) which is not generally allowed. The displayed quote on both exchanges is "protected" and another exchange can't lock or cross the market without first dealing with the protected quotes (usually by routing orders to fill against it, see #2 below). What would have really happened in your scenario would have been on of the following: 1. The orders would have been partially filled and the balance would be cancelled (order were Immediate Or Cancel) 2. The orders would be partially filled and the balance routed to other exchanges which are displaying the same price (Orders were routable) 3. The orders would be partially filled and remain active (but undisplayed) at the exchanges (this is dependent on what order type is used and at what exchange). > how can non-HFT traders arrange to capture the surplus currently claimed by HFT? By posting their order and waiting to be filled. In a two sided market your options are to pay up and be filled immediately or to get in line with everyone else that wants to keep that extra $.01 and wait for someone more impatient (or informed) to come along and sell to you. By providing liquidity you take time and price risk (you don't know when you will get filled, if ever, and the market may move away from you requiring you to have to pay more later) and by taking it you don't (but you pay the liquidity provider for the privilege). "Someone will always be faster." That will always be true no matter what new trading format is being considered. There will always be a way for someone to get relevant information more efficiently and act on it. Always. Slowing down markets or obscuring/delaying quotation hurts price discovery and increases uncertainty. This increases volatility, widens spreads, and in all likelyhood actually tilts the playing field in the favor of high-speed computerized trading rather than away from it.

by fr0sty 13y ago

AnthonyMouse 13y ago

> How does the HFT know that someone is crossing the spread? So suppose the bid for some particular stock is $100.00 and the ask is $100.10 in both Chicago and New York. They could be different between the two exchanges, but the prices between exchanges will generally be the same or very close to each other at any given time because any significant divergence is an arbitrage opportunity. Now somebody wants to buy some shares of that stock in Chicago, so they cross the spread and put in a bid for $100.10. They immediately buy all the shares in Chicago that are available at $100.10. Now the ask in Chicago will go up because all the shares available for $100.10 in Chicago have been purchased, so now the bid in Chicago is $100.10 and the ask is, say, $100.20. At the same time, in New York, somebody wants to sell some shares of the same stock. So they cross the spread and make shares available for the bid price in New York, which is $100.00. That seller sells to everyone in New York who is willing to pay $100.00, so now the ask in New York is $100.00 and the bid is, say, $99.90. Both the buyer in Chicago and the seller in New York are still willing to buy and sell more shares at $100.10 and $100.00 respectively, i.e. the new bid in Chicago is higher than the new ask in New York. The HFTer sees the new prices before most other traders because their computers are faster and closer to the exchanges. As soon as the buyer at $100.10 learns there is a seller at $100.00 or vice versa, they would get together and trade all the shares they want to trade at some price in that range. But the HFTer learns the pricing information first and, before the buyer and seller find out about each other, the HFTer buys the seller's shares in New York at $100.00 and immediately resells them to the buyer in Chicago at $100.10.

fr0sty 13y ago
Assuming things work the way you describe (they don't, but I'll play along) if there is no HFT involved how would you propose that this situation be resolved? There is $.10 of surplus here. Who (if anyone) should get it, how, and why?
- AnthonyMouse 13y ago
  > Assuming things work the way you describe (they don't, but I'll play along) By all means educate us then. > There is $.10 of surplus here. Who (if anyone) should get it, how, and why? That seems like kind of a philosophical question. Who ever should get any surplus? A better question might be, how can non-HFT traders arrange to capture the surplus currently claimed by HFT? > if there is no HFT involved how would you propose that this situation be resolved? The situation now is that whoever is fastest gets the surplus, even though being milliseconds faster provides very little utility. If you remove all HFTers somehow by magic but the situation remains that whoever is fastest gets the surplus then whichever of the buyer and seller can adjust their prices faster would get it. But suppose we go a different way and have the exchanges sort it out: Automatically send all offers to buy or sell to every exchange where that security is traded and allow the other exchanges several seconds to match bids with asks. The highest bid is always matched with the lowest ask on any exchange and the price paid is the midpoint between them. That seems inherently more efficient than creating a huge financial incentive for private actors to shave invisibly small slices from the amount of time it takes to trade between exchanges.
  - fr0sty 13y ago
    In your example both NY and Chi would be "crossing" the market (bid above offer) which is not generally allowed. The displayed quote on both exchanges is "protected" and another exchange can't lock or cross the market without first dealing with the protected quotes (usually by routing orders to fill against it, see #2 below). What would have really happened in your scenario would have been on of the following: 1. The orders would have been partially filled and the balance would be cancelled (order were Immediate Or Cancel) 2. The orders would be partially filled and the balance routed to other exchanges which are displaying the same price (Orders were routable) 3. The orders would be partially filled and remain active (but undisplayed) at the exchanges (this is dependent on what order type is used and at what exchange). > how can non-HFT traders arrange to capture the surplus currently claimed by HFT? By posting their order and waiting to be filled. In a two sided market your options are to pay up and be filled immediately or to get in line with everyone else that wants to keep that extra $.01 and wait for someone more impatient (or informed) to come along and sell to you. By providing liquidity you take time and price risk (you don't know when you will get filled, if ever, and the market may move away from you requiring you to have to pay more later) and by taking it you don't (but you pay the liquidity provider for the privilege). "Someone will always be faster." That will always be true no matter what new trading format is being considered. There will always be a way for someone to get relevant information more efficiently and act on it. Always. Slowing down markets or obscuring/delaying quotation hurts price discovery and increases uncertainty. This increases volatility, widens spreads, and in all likelyhood actually tilts the playing field in the favor of high-speed computerized trading rather than away from it.