The HFT shops put millions of dollars into research to attempt to ascertain correct prices (e.g. ETF pricing, derivatives pricing, etc). If they are disincentivized from trading in the equities markets, they will no longer be a conduit of relevant pricing information from other global markets into the equities markets. That means investors (big Wall Street firms catered to by IEX) and retail (you and me in our individual accounts) are more likely to be trading mis-priced markets.
You seem to take it at face value that trading at accurate prices is an unalloyed good. But for the extremely overwhelming majority of retail investors — whose only sane strategy is buy and hold — buying at a few tenths of a percentage points closer to the most-accurate possible price is worth nearly nothing (and has negative worth half of the time, practically by definition).
On the other hand, Wall Street has been raking in tens if not hundreds of billions in profits from this service. What value we get from more accurate pricing may very easily be offset by these costs a hundredfold.
I think you are also underestimating the costs to retail investors to not getting accurate pricing. Shaving a few tents of a point off of every trade will have a huge effect on the lifetime earnings of an individuals.
They made 147M in the first quarter of this year. 197M in the first quarter of last year. They might only make 100M/year after costs, but that doesn't represent the 600-900M they take from the market.
HFT is rounding error.
You can't estimate it that way as they don't win or profit on all their trades. At it's height HFT was estimated to responsible 15-25% of daily volume by best guesses (it's some what obfuscated.) I'd be surprised if it was less than 5% today. Not just Virtu of course - all players big and small.
When people talk about making $0.0001 per share that's their ex-ante expectation. It accounts for the fact that you're not going to make money on every trade.
Furthermore, in exchange for "taking" that money from the market, they enhance liquidity, which is directly helpful for price discovery and facilitating trading among both retail and institutional investors.
People are continually moving the goalposts in this thread and others like it. If you're going to talk about Wall Street and fraud, high frequency trading is not the place to start. All of the legitimate arguments against high frequency trading have nothing to do with fraud, they have to do with the dangers of runaway algorithmic trading that coalesces into the same market movements.
But we can't reason about that issue while half the people talking about HFT (almost none of whom actually have experience with trading whatsoever) still think it's front running, or believe it constitutes some sort of fraudulent con over "the little guy."
This is an inaccurate framing of how high frequency trading propagates liquidity in an otherwise illiquid (or strictly less liquid) market. The claim is not that liquidity is contributed on a strictly trade by trade basis, but rather than the low-latency activity has meta-reactive effects owing to enhanced price discovery that increase overall participation by drawing in other traders at different time resolutions. For example, where there may a stagnant order book on one equity (and consequently, few human traders able to fulfill orders without significant pricing penalties), the same order book may draw in competing market makers. They attempt to predict the next price movement - some win and some lose on the immediate sequence of trades, but the consequent activity narrows the bid/ask spread by heightening local participation in the order book and improving the pricing confidence. This has practical ramifications for "human" time resolutions, because the human traders now have a better opportunity to fulfill orders without overpaying. This in turn reduces overcautious traders from participating, and so on and so forth.
For what it's worth, your line of argument has been rehashed for years now on Hacker News, going back to when Chris Stucchio wrote his HFT apologia. Instead of lazily linking to that thread, I'll do one better by walking through research on the subject. Fortunately there is a handy paper that explicitly examines the question, "how does the interaction of these traders in the millisecond environment impact the quality of markets that human investors can observe?"[1] The data is constructed using NASDAQ TotalView with equities in the S&P500 in periods of varying volatility. Both reactive and periodic trading algorithms are reviewed.
Here are a few critical passages:
By tracking submissions, cancellations, and executions that can be associated with each other, we create a measure of low-latency activity. We use a simultaneous equation framework to examine how the intensity of low latency activity affects market quality measures. We find that an increase in low-latency activity lowers short-term volatility, reduces quoted spreads and the total price impact of trades, and increases depth in the limit order book.
IV.B. Results Panel A of Table 4 presents the estimated coefficients of the pooled system side-by-side for the 2007 and 2008 sample periods. First we note that the two instruments have the 25 expected signs and are highly significant. Specifically, the coefficient a2 indicates that when liquidity off NASDAQ is higher, our NASDAQ market quality measures show higher liquidity and lower volatility. Similarly, the coefficient b2 is positive in all specifications, indicating that higher low-latency activity in a specific stock in an interval is associated with higher low-latency activity in other stocks on the NASDAQ system. Second, the estimated b1 coefficients tell us that low-latency activity is attracted to more liquid and less volatile stocks.
The fact that low-latency trading decreases short-term volatility and contributes to depth in the 2008 sample period where the market is relentlessly going down and there is heightened uncertainty in the economic environment is particularly noteworthy. It seems to suggest that PA activity creates a positive externality in the market at the time that the market needs it the most. Panel B of Table 4 presents roughly similar results from the estimation of the system with SpreadNotNasi as the instrument for market liquidity.
It is possible, however, that the impact of low-latency trading on market quality would differ for stocks that are somehow fundamentally dissimilar, like small versus large market capitalization stocks. Table 5 presents system estimates in subsamples consisting of four quartiles ranked by the average market capitalization over the sample period.22 There is not much pattern across the quartiles in the manner low-latency activity affects short-term volatility in the 2007 sample period. The picture in the 2008 sample is different: It appears that during more stressful times, low-latency activity helps reduce volatility in smaller stocks more than it does in larger stocks.
Lastly, Table 6 shows summary statistics for the stock-by-stock estimations. The results suggest similar conclusions concerning the effect of low-latency trading on market quality. In particular, an increase in low-latency activity decreases short-term volatility, decreases quoted spreads, and increases displayed depth in the limit order book. This is true both in the 2007 and 2008 sample periods.
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1. http://people.stern.nyu.edu/jhasbrou/Research/Working%20Pape...
A few tenths of a percent is on the order of less than $100/year assuming that a retail investor invests the maximum amount allowed inside a 401k each year (ignoring for a second that typical 401k plans do not permit investing directly in individual stocks and also ignoring catch up contributions for older folks). It's just not a significant amount of money at the level of an individual retail investor.
The average retail investor should not be making enough trades for this to matter.
Bringing down the price of trades like this only makes it cheaper for the suckers — day traders — to think they're playing the game. It is of marginal utility for the average retail investor.
Yes, there's some nice compounding in between, assuming that you buy and hold with no further trades. But, there's a wide gulf between "day trading" and active stock-picking. Assuming that your average hold time is 5 years per stock, you're still going to rack up a lot of commission costs at $35 per trade.
Am I missing something here?
Yes. By paying relatively small amounts to high frequency market makers in return for enhanced liquidity and price discovery, you won't be overpaying by 1% (or more). I also challenge the idea that it would just "balance" itself out, in the absence of evidence supporting that thesis. In actuality you'd likely just amplify the costs you already have and either fill fewer trades or have higher costs for doing so.
Choosing to lose $1 due to low liquidity instead of a few cents due to market makers is both petty and nonsensical. There are legitimate arguments against HFT, but they don't begin by trying to reinvent economics such as to de-emphasize optimal price discovery.
That's not really that much in the scheme of things, but it's only one company, and I doubt the other investors would be willing to spend similar on insurance against volatility.
It really isn't though. It's been maligned as part of a smear campaign by the actual rent-seekers, Wall Street proper, as other commenters have noted.
What? No it wouldn't. You are disproportionately rewarding makers in this scenario. You would find plenty of listed orders, which somewhat looks like liquidity, but it would not be a liquid market. The end result would be a market that is actually less liquid because no one wants to fulfill orders. It would be utterly lopsided.
How many times do you trade a year? Actually perform trades? Even including mutual funds, I think it's < 100 yr.