Who’s afraid of high frequency trading?
Reuters published an excellent article on high frequency trading titled “Who’s afraid of high frequency trading” (http://hft.thomsonreuters.com/2009/11/20/quiet-evolution-drawn-into-the-light/ ). A few of the high frequency traders even were bold enough to comment publicly on their secretive practice and how they view themselves. They seem to view themselves as:
1- Liquidity Providers – “People should expect and be willing to pay a price for the liquidity that they get. No one should expect that a provider of liquidity is just going to stand there while you bulldoze them into submission,” said one HFT. Well, a real liquidity provider will post a two sided market and not cancel at the first sign of a real order. A real liquidity provider will not cancel 90% of their orders. A real liquidity provider will be there during times of market stress. The rebates that the HFT’s collect from the exchanges should be earned and there should be obligations that the HFT must meet (like mandatory quotes and size, minimum order cancelation to execution ratio). Otherwise, are these HFT’s real market makers and liquidity providers?
2- Capitalists – “We live in a capitalist society,” said one HFT. This is true and in a capitalist society new industries are created to replace old ones. “Creative destruction” is the term some people use to describe capitalism. And in that sense, HFT is a truly a capitalist evolution. They are very creative and they are destroying the equity market. The equity market is a place where companies come to raise capital to support future growth. It is not supposed to be a place where whoever can shave the most nanoseconds or pico seconds off of their latency gets to profit the most.
The most disturbing part of the article was this comment from a HFT :
“By just reading the tape you can see a lot of what the other guys are doing. You can see who is successful. So eventually everyone is operating more or less the same strategy”.
This sounds alot like portfolio insurance from the late 1980’s. It sounds like what Paul Wilmot described in his July 28th op-ed in the New York Times (http://www.nytimes.com/2009/07/29/opinion/29wilmott.html?_r=2 ):
“By 1987, however, the problem was the sheer number of people following the strategy and the market share that they collectively controlled. If a fall in the market leads to people selling according to some formula, and if there are enough of these people following the same algorithm, then it will lead to a further fall in the market, and a further wave of selling, and so on”