HFT adds liquidity????? Again with this defense?

There are two HFT-related articles this morning:

First, an article showcasing Getco LLC:  http://online.wsj.com/article/SB125133123046162191.html

Second, an article by former POSIT founders defending Flash Trading:  http://online.wsj.com/article/SB10001424052970203706604574374431720968204.html

I’ll start with the second article. It likens Flash Trading to offering to sell your house to your neighbor before you list it. That analogy is wrong. The correct real estate analogy would be that you are about to close on selling your house to Joey for $500,000, and you FLASH your neighbor (not Joey) about your impending deal with Joey, and then your neighbor can step in and buy your house instead of Joey for $500,001 , or perhaps even drive to the closing before you get there, and offer Joey his house instead of yours  for $499,999.  Get it now guys?

The authors actually give an example of FLASH where a stock is $10.00 by $10.50, where an order was FLASHED in Directedge and received price improvement at $10.25. This FLASHED order detracted from volatility, and added liquidity to the market. It is a philosophically accurate and wonderful example, except for the fact that any buy side small cap trader does not relate to that experience as much as they  relate to not getting the offer, as someone “beat them to it”. And the penalty for not getting that displayed offer is much harsher in a small cap than in GE, where the buyer just maybe pays up $.01. Unfortunately, we know that HFT has not added to liquidity in small caps, in which incidentally a $.50 spread is common, but rather they have added volatility.

Finally, the authors  also say Flash Trading is no different than shopping an order upstairs in the “pre-computer era”. The authors say we had no problem with that shopping and process before, so why should we now.  Only they are wrong. They should ask the buy side trading desks they used to service what they thought about the information leakage from shopping. Heck POSIT was a huge success because it DIDNT SHOP AND LEAK INFORMATION. Shocking.

Regarding the first article, which highlights Getco (a firm we commend on its success and ingenuity), allow me to comment . The article makes three points within 7 short paragraphs on the back page of C1 : 1) Mr Tierney say that HFT’s October 2008 losses would have been greater than the 14.1% decline the DJIA posted had it not been for HFT. 2) Getco made $400,000,000 in 2008 in profits. 3) Getco holds few securities by the end of each day (ie they go home flat). This does not jive. This is a zero sum game. They went home flat. How is that adding liquidity? How is that mitigating losses in the market? That sounds more like adding volatility to me. No?