Content for our morning notes is often difficult to acquire.  We scan many different sources and often find details of questionable practices buried deep within detailed exchange filings with the SEC.  But every once in a while we are handed a gift.  Such is the case with today’s note.  Yesterday, we received an e-mail from a vendor alerting us to a new white paper from NYSE Technologies titled “Demystifying Exchange Colocation“.  Most people would have hit delete faster than you can say nanosecond.  But we, on the other hand, could not wait to download this paper.  We were expecting lots of red meat and we were not disappointed.

The paper was actually written for NYSE Technologies written by a consultant firm called the A-Team Group (Not sure if Mr. T works with them).  It appears that the point of the paper was to inform potential clients of new technologies which could help smaller HFT’s circumvent the cost
of co-location.  Rather than focus on their “solution”, we focused on their “problem” -co-location.

The following are direct quotes from the paper.  We wish we could take credit for them but the A-Team is responsible for these:

“It’s been accepted among the majority of market practitioners that colocation of a firm’s
trading systems at the same physical facility as the execution venue’s matching engines is the optimal solution to the latency challenge.”

“But to date, colocation hasn’t been the default solution for many market players, chiefly because of its cost. Rather, it’s been the better-resourced market practitioners who have been able to take advantage of its clear benefits.

“The cost of colocation can be substantial – – the practice has historically required significant investments in equipment, space and line rentals, and ongoing management and
maintenance.”

“Chiefly as a result of these cost factors, many players have been unable to take advantage of colocation.  This places them at a trading disadvantage to their larger, better resourced peers, which are able to rest assured that their co–located trading engines have as good a chance as any of completing a trading strategy as designed, significantly boosting the profitability of their trading operations.”

Aren’t you happy to hear that the large, deep pocketed HFT’s can go to sleep at night and” rest assured” that they have the best system with the fastest speed possible?  Aren’t you happy that these better resourced, upper class HFT’s have the technology to ensure that they can see orders before most other investors and make almost risk free profits everyday?

We constantly hear from the exchanges that anybody can co-locate and anybody can subscribe to the private data feeds that some exchanges sell.  But as the A-Team tells us “many players are unable to take advantage of co-location” and are “at a trading disadvantage” to their “well-resourced peers” because of the high cost of colocation.  Sounds like a two-tiered market structure to us.