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> It reminds me of what the high frequency traders say about liquidity: Even if it could theoretically be true under some set of artificial constraints, in practice the cost of allowing it pretty clearly exceeds the supposed efficiency benefits.

I don't get the ire against HFT. The only ones who should be worried about HFT besides regulators are the human traders who are going to be put out of work by HFT shops.




>I don't get the ire against HFT. The only ones who should be worried about HFT besides regulators are the human traders who are going to be put out of work by HFT shops.

I'm not convinced that HFT is anything particularly insidious, but the fig leaf of providing liquidity is pure rubbish and it seems like the sort of activity that shouldn't be rewarded with billions in profits. It reminds me of the scam from Office Space. Take a fraction of a penny from a large number of people and nobody really cares, but that doesn't mean you deserve the money. And it's causing an enormous amount of resources and brain power to go into beating the runner up by a fraction of a millisecond that could be going to something more productive.


Why is the liquidity justification pure rubbish? That's what human traders do as well. HFT doesn't "take" money from anyone. Its all voluntary sales and purchases. They don't "deserve" it any more or less than any other middle man.


>Why is the liquidity justification pure rubbish? That's what human traders do as well.

Human traders hold securities for more than fractions of a second. If I want to sell my shares of some low volume stock today and some other human investor wants to buy them next month, a third party who is willing to buy them from me today and sell them to the other buyer in a month is providing a useful service -- I get paid today, he gets the shares at a slight discount and makes a profit a month from now. That clearly doesn't apply when a high frequency trader buys shares and turns them around in fractions of a second.

>They don't "deserve" it any more or less than any other middle man.

A middle man deserves the profit he earns by providing value. What value is provided by a middle man engaged in naked arbitrage by taking advantage of an ephemeral information asymmetry?


There needs to be a name for the fallacy where people discuss trades as if prices could only move in one direction. That, obviously, is the only way you can frame a discussion of trading in terms of "discounts". In reality, an entity that takes a position in an instrument also bears the downside risk for that instrument. Averaged out, it is exactly as likely that an HFT shields an unwitting potential buyer from a loss as it is that they snipe away the profits from that sale.

The value provided by "middle men", be they robots or crooked traders in pits, is liquidity and price discovery. Trading allows people holding an instrument to unload it more quickly rather than waiting to convince themselves to take a bigger leap on pricing; it's what, in a simplifier Bohr-model kind of way of looking at stock trading, allows you to buy shares in a stock at a market price you can look up online as opposed to waiting for the stars to align. The faster the trading, the lower the spread, the smaller the leap sellers and buyers have to take.

It's worth noting again as always that before automated and program trading, spreads were higher, and the space in the spread between the bid and the ask was basically a license to steal.

Here's a good comment from awhile ago, including a cite to an accessible paper:

http://news.ycombinator.com/item?id=3895208


>Averaged out, it is exactly as likely that an HFT shields an unwitting potential buyer from a loss as it is that they snipe away the profits from that sale.

How can this be true consistent with HFT being profitable?

> The faster the trading, the lower the spread, the smaller the leap sellers and buyers have to take.

That's the theory. The issue is that when you get into sub-millisecond trades, you're so far into diminishing returns that the profits the HFTers are taking exceed the benefit of any theoretical increase in liquidity.

Also, the paper link in that post is truncated, but I found it on Google and (at least from the abstract) it doesn't seem to support what you're saying. The paper says HFT has caused spreads to go down because in order to mitigate its effects, third parties are breaking larger trades into smaller ones. But that only reduces the spread on paper by increasing the number of transactions.


HFT market makers profit from the spread the same way human market makers do. The difference is that HFT market makers narrow the spread sharply; they are fighting over a much smaller slice of the pie than humans do.

I'm not sure what you mean by your second point. Sellers and buyers are always breaking large blocks into small blocks. Moving large blocks of tradable instruments at the best price is one of the fundamental technical problems of trading. The spread captures what at any moment you would need to give to middlemen to transact on the market. Smaller is better no matter what the reason.


Large HFT players are market makers who are paid by exchanges to ALWAYS be in the market for each share traded.


A fraction of a millisecond is a long time, in HFT.




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