High frequency trading – credible research tells the real story


Will Psomadelis

Will Psomadelis

Global Head of Electronic Trading Research, Head of Trading; Australia

With the increasing debate about High Frequency Trading that often dominates the financial and mainstream press, one sometimes needs to simplify the information provided to remember what it is we are discussing in the first place.  Generally speaking, independent HFT houses are proprietary trading firms that hold few, if any, overnight positions.

The debate is centred upon whether HFT causes increased frictional trading costs that erode returns for fundamental investors, and more importantly, whether HFT has degraded market quality resulting in a distortion of asset allocation away from equities.

A recent study into HFT in the Australian market has quoted HFT participation in Australia at between 30% and 80% for the period of Oct 2006 and Oct 2009. These activities have been immensely profitable. Widely accepted global net profit numbers are in the multi billions of dollars with TABB Group noting 2008 fiscal year estimates at between US$8 and US$20 billion net profit for HFT in the US alone.

Simplistically, whilst HFT might see itself as an intermediary, opponents might describe it as a form of front running[1].The conflict is enhanced when brokers, the traditional intermediary between the buy side and the exchange, are concurrently selling execution products to fund managers, whilst sponsoring HFT access to the exchange, or inviting them access to broker owned pools of liquidity to boost volumes.

HFT is a growing and ever changing part of the trading landscape and has every right to participate in financial markets as long as regulation evolves to allow fair and equal access to markets for all participants and the provision of a stable and efficient market place.

Outside of equities if CDS products are to soon move from bi-lateral arrangements to lit exchange traded products, what would be the consequences of a speculative HFT induced flash crash in a teetering sovereign CDS on the world economy?

[1] “Frontrunning” as a legal term is trading ahead of clients. HFT have few if any clients (dark pools aside). This raises questions of the legislative lag time versus the reality of the market.

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