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Friday, June 4, 2010

Hi-Frequency Late Night Blog-06.03.2010


Preparing to go to sleep, I went to my computer to shut it down when I saw this headline on the WSJ: "Fast Trader's New Edge- Investments Firms Grab Stock Data First, and Use It Seconds Before Others." Curiosity overwhelming my desire to sleep (insomnia in other words), I went on and skimmed through the article. The first two paragraphs are as follow:

Some fast-moving computer-driven investment firms are getting an edge by trading on market data before it gets to other investors, according to market players and researchers who have studied the trading.

The firms gain that advantage by buying data from stock exchanges and feeding it into supercomputers that calculate stock prices a fraction of a second before most other investors see the numbers. That lets these traders shave pennies per share from trades, which when multiplied by thousands of trades can earn the firms big profits.


"Big profits"! Why is that I have this feeling of skepticism in all of this?!? In recent years, high-frequency trading has become the star on Wall Street. Estimates shows that it now accounts for approximately two-thirds of US stock market volume. People are talking about Latency arbitrage as the new "hot" thing and money are pouring in different technological research in the hope to exploit this new synthetic phenomenon. Greed is undoubtedly the fuel that drives the engine of capitalism, however, it is also the factor that have caused tremendous losses of wealth throughout the years for our society. It looks like the excitement of the opportunity to make money often delude the investors and cause for their carelessness.

Yes, high-frequency trading does create liquidity for the market. It does bring opportunities for profit; however, where is the catch? One of the thing that I was thinking about is the repercussion of erroneous data input. What if the data that companies use to calculate stock prices is erroneous and causes the market to move in the wrong direction? What if such movements causes a reverberation in the system that cannot be prevented because of the huge volume and the speed in the nature of high-frequency of trades? We have seen something similar to this before and I think we all know the answer to the question!

Luong Hai
Summer Analyst
Analyze Capital LLC
Twitter: AnalyzeCapital

2 comments:

  1. Nice post Hai. You gave great insight into the moral hazard of this relatively new phenomena. Remember that High Frequency trading does serve a purpose. Without it there would be much less liquidity in the market, as you stated. Also, HFT tightens the spreads between bid and asks, allowing for better pricing.

    "One of the thing that I was thinking about is the repercussion of erroneous data input. What if the data that companies use to calculate stock prices is erroneous and causes the market to move in the wrong direction?" I happen to know a couple of algorithmic traders who have had this exact problem. When the market behaves irrationally (when is it ever rational?) the algorithms break down and run a muck. The guys I know tell me the best thing to do to prevent this is to babysit.

    ReplyDelete
  2. Well, lets hope that the babysitter will do his/her job well :)

    ReplyDelete

 
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