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The best argument I have heard in favor of HFT was from Jim Simons of Renaissance Technologies. He said that the so-called market-makers would run at the first

The best argument I have heard in favor of HFT was from Jim Simons of Renaissance Technologies. He said that the so-called market-makers would run at the first sign of trouble (as they did in the 1987 crash) and caused prolonged downturns, whereas the algorithms for HFTs were truly liquid market-makers and kicked back in the buying faster once prices got irrationally low.

thrownawayhft 12y ago
I worked at a market maker (owned by a bank) that handled around 8-10% of US stock trades. When things like the flash crash happened, the strategy was to stop anything automated, because the simple strategies had no way of knowing the cause. Trading on normal market-microstructure signals, the trading that provides the bulk of liquidity, would just get you creamed. To meet our market maker requirements, which allowed us to do things normal market participants can't do, like naked shorting, we would do things like leave a 1 penny bid and ten-thousand dollar ask and not change them for the entire day. Exchange regulators tried to address this and made market makers quote within some percentage of the bid/ask. Nasdaq literally just created an order type that would automatically reprice itself to always be exactly that percentage away from the bid/ask, so that it could never execute--just like the previous 1-penny bids--but would comply with the regulation. The order type only existed to bypass that regulation and was literally created in response to demand after its passage. Even without that order type we'd just do (and did do, it took them a while after the regulation to add the order type) the same thing in the models' trading logic.
- thejaredhooper 12y ago
  Do you have any links/resources for the subject matter you're covering in this comment? I'd like to learn more about what you're saying, and I can't seem to wrap my head around what it is you're trying to express with penny bids.
  - harryh 12y ago
    What he's trying to say is that his firm was contractually required to have a bid (an offer to buy) and an ask (an offer to sell) for some set of stocks. But under certain circumstances they didn't really like this requirement so they kind of cheated by changing their bid to 1 penny and their ask to $10,000. For a stock that trades around, say, $100 this means that while they de-facto had a bid and ask in place it wasn't really a real bid or ask as no one else would ever want to trade at those prices.
    - thrownawayhft 12y ago
      And under the regulation we might have been required to ask at minimum $120 for that stock when it was trading at $100. If the stock had a big day and rose to $200, Nasdaq would just raise our ask to $240, or whatever exact amount the regulation required. The only risk compared to the old way of doing things was that someone would hit the stock with a huge enough order to blow through all liquidity in one shot on the way up to our ask.
tdaltonc 12y ago
HFT liquidity vaporizes at the slightest hint of unusual behavior. These algorithms are designed to function in 'typical' markets, and their authors don't want to have them running in an environment they're not built for.
- tptacek 12y ago
  That's dramatic hyperbole. The event people think of when we talk about electronic liquidity "vaporizing" is the Flash Crash. The Flash Crash was a series of mistakes whose impact was profound enough that nobody could trust market data; the system, in its corrupted state, was in fact untrustworthy, and the idea of providing liquidity across it seems in retrospect pretty dubious. Unusual things happen all the time in the markets. Many of those unusual events involve bugs and errors in the exchanges. Liquidity does not routinely vanish from the markets in response to those events. How many major "evaporations of liquidity" can you name in the last several years apart from the Flash Crash? 5? 10? How do you think those counts will compare to liquidity during the specialist system? Warren Buffett's favorite business book, _Business Adventures_, opens with a chapter on a liquidity crisis from the 1960s so profound that the market data technology of the day was backed up several hours --- that's how long you'd have to wait simply to see what the current price of a stock was.

thrownawayhft 12y ago

I worked at a market maker (owned by a bank) that handled around 8-10% of US stock trades. When things like the flash crash happened, the strategy was to stop anything automated, because the simple strategies had no way of knowing the cause. Trading on normal market-microstructure signals, the trading that provides the bulk of liquidity, would just get you creamed. To meet our market maker requirements, which allowed us to do things normal market participants can't do, like naked shorting, we would do things like leave a 1 penny bid and ten-thousand dollar ask and not change them for the entire day. Exchange regulators tried to address this and made market makers quote within some percentage of the bid/ask. Nasdaq literally just created an order type that would automatically reprice itself to always be exactly that percentage away from the bid/ask, so that it could never execute--just like the previous 1-penny bids--but would comply with the regulation. The order type only existed to bypass that regulation and was literally created in response to demand after its passage. Even without that order type we'd just do (and did do, it took them a while after the regulation to add the order type) the same thing in the models' trading logic.

thejaredhooper 12y ago
Do you have any links/resources for the subject matter you're covering in this comment? I'd like to learn more about what you're saying, and I can't seem to wrap my head around what it is you're trying to express with penny bids.
- harryh 12y ago
  What he's trying to say is that his firm was contractually required to have a bid (an offer to buy) and an ask (an offer to sell) for some set of stocks. But under certain circumstances they didn't really like this requirement so they kind of cheated by changing their bid to 1 penny and their ask to $10,000. For a stock that trades around, say, $100 this means that while they de-facto had a bid and ask in place it wasn't really a real bid or ask as no one else would ever want to trade at those prices.
  - thrownawayhft 12y ago
    And under the regulation we might have been required to ask at minimum $120 for that stock when it was trading at $100. If the stock had a big day and rose to $200, Nasdaq would just raise our ask to $240, or whatever exact amount the regulation required. The only risk compared to the old way of doing things was that someone would hit the stock with a huge enough order to blow through all liquidity in one shot on the way up to our ask.

tdaltonc 12y ago

HFT liquidity vaporizes at the slightest hint of unusual behavior. These algorithms are designed to function in 'typical' markets, and their authors don't want to have them running in an environment they're not built for.

tptacek 12y ago
That's dramatic hyperbole. The event people think of when we talk about electronic liquidity "vaporizing" is the Flash Crash. The Flash Crash was a series of mistakes whose impact was profound enough that nobody could trust market data; the system, in its corrupted state, was in fact untrustworthy, and the idea of providing liquidity across it seems in retrospect pretty dubious. Unusual things happen all the time in the markets. Many of those unusual events involve bugs and errors in the exchanges. Liquidity does not routinely vanish from the markets in response to those events. How many major "evaporations of liquidity" can you name in the last several years apart from the Flash Crash? 5? 10? How do you think those counts will compare to liquidity during the specialist system? Warren Buffett's favorite business book, _Business Adventures_, opens with a chapter on a liquidity crisis from the 1960s so profound that the market data technology of the day was backed up several hours --- that's how long you'd have to wait simply to see what the current price of a stock was.