High-Speed Traders Rip Investors Off, Michael Lewis Says
bloomberg.com
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Conversely, when talking about equities markets there is no such thing as the stock "price". This is a short hand that is used. In reality, there are groups of people, some willing to buy shares at a variety of prices, and some willing to sell shares at a variety of prices. The job of the exchange is to match these 2 groups when the buy/sell prices intersect or cross. This gets complicated when there is more quantity on 1 side of the buy/sell than the other. Exchanges have rules how this imbalance will get resolved, most of the time it is based on who has been at that price point the longest.
But they can actually see you attempting to buy stock, step in front of you, buy it before you, and then try to resell it to you for a higher price? That's bad behavior and reduces confidence in the free market. There needs to be regulation around things like that.
The thing is, there are multiple markets not just one. So when you place an order to buy 100 shares of IBM, that order gets sent to many places to try to find the best offer to fill you.
If a HFT can see you submit that order to 1 market, and then beat you to the other 4 markets and buy up all the shares before you, that's frontrunning. That would be illegal if your broker did it, but HFT is not your broker, and just has the advantage of being faster than your broker.
What makes you say it's "not true"? What evidence do you have of that?
Once that order hits the market it is public signalling data that should impact the prices on every other market. That some traders are more efficient at responding to that public signalling data than others is not an issue and in fact is a large part of why the markets are as efficient as they are.
But given the simplistic nature of the discussion it is more accurate to say that in general HFT don't see your order before it hits the market than it is to say they do.
Katsuyama realized that his orders traveled along fiber
optic lines and hit the closest exchange first, where high
frequency traders would get a glimpse, and then use their
speed advantage to beat him to the other 12 U.S. public
exchanges and 45 private trading venues. HFT algorithms
could then buy the shares Katsuyama wanted, and then sell
them to him at a slightly higher price. [1]
[1] http://www.reuters.com/article/2014/03/31/us-markets-hft-fla...
He was taking advantage of multiple exchanges in order to hide his order flow, because as a natural consequence of market laws large orders move prices. He is just upset that other folks were better at finding his order flow than he was at hiding it.
FTFY
Same shit.
Trade execution/optimization is actually where most of the differentiation is in current HFT systems as the speed race has become so efficient.
Just remember that this is happening at very fast speeds, by participants that have mind bogglingly high risk levels.
But this latency is not about seeing other peoples orders before they enter the market, it is about reacting to market data quickly as it is disseminated to everyone.
So the real question to ask is: does a marginal increase in liquidity outweigh the financial cost? I'd argue that it is a tax on society with no real benefit. I've started to hear about auction's to improve the markets which is interesting and saves us from the millions (billions?) of dollars that HFTs pocket for themselves.
[1] http://quant.stackexchange.com/questions/1658/has-high-frequ...
Let's simplify this: I have a stock to sell, I'm asking $100, you want to buy and offer $95.
How does a HFT decrease the spread while keeping a portion of the transaction itself as profit?
Matt looks at the bid ask spread and decides it would be profitable to make a market in that stock. So he simultaneously asks at $99.99 and bids at $95.01. If Sally and Bob were to come back now they each would get a better deal and Matt would make $4.98 on the deal.
For Matt to continue doing this that $4.98 needs to cover the risks he is taking, his operational costs, and some profit. An HFT is much more efficient at this than Matt driving down the operational cost & potentially calculating the risk more accurately.
It is quite normal to take a spread in any industry - an orange seller steps between you and the farmer, for example. I would argue your broker does a lot less for you than a farmer, or high frequency market maker. HFT is generally known to shrink the spread, making trading cheaper for you than it would be without them. They still take a profit, because they take a risk.
I'd recommend reading a little about market structure - and preferably not from those with a narrative to sell.
Now technically they write it off as helping you as they group small orders together and execute them, but that doesn't mean these market makers are making a profit off the transaction.
My issue comes from the fact that securities trading is based on the idea that we buy and sell parts of these securities under the idea we see value in the company. This fits best with a long term hold position but is not really that divergent with a day trader who buys AAPL today because he thinks news later today about some new product will cause the price to go up thus increasing the value of the company. He will sell later in the day because he thinks that it may drop later.
My issue with HFT is that these trades (well most of them) are not based on the value of the security but rather on the act of buying and selling itself. It is meta in a sense.
That in my mind creates a fundamental flaw in the marketplace around the true purpose of a securities exchange.
That's a service provided to you by market makers. And it's a service for which they get paid.
If I submit a buy order for 10 shares of GOOG with a limit of $1134 that order is going to show up in the data stream of HFTs only after it has become a valid open order on the exchange, right?
If at that time there is a sufficient volume of open sell orders at or below my limit, does my order go through or is there a way for an HFT to overtake my order?
The only way I can see how an HFT could possibly overtake my order is by offering to buy at a higher price than me before my order goes through, hoping that he could sell the shares to me later on for an even higher price.
But that's a pretty risky bet for the HFT assuming he needs to be out of the market before the market closes. It seems to me that the most likely victims are other HFTs because they are the ones who will quickly raise their limits when they see the price go up.
A low frequency trader like myself can just sit there and wait until the price comes down again or just walk away. Is there something I misunderstand?
[Edit]:
So, summing up the replies I got here, the only problem seems to be that my broker is allowed to send my order to HFTs before it goes live on the exchange. Wouldn't it be incredibly simple to ban this practice? If it's that simple to solve, why all the fuss about HFT?
Correct.
"If at that time there is a sufficient volume of open sell orders at or below my limit, does my order go through or is there a way for an HFT to overtake my order?"
You will get filled with at worse, your limit price.
"The only way I can see how an HFT could possibly overtake my order is by offering to buy at a higher price than me before my order goes through, hoping that he could sell the shares to me later on for an even higher price."
Correct.
False.
HFTs and other trading firms actually buy up the order flow from brokerages. In fact, retail investors making trades in their brokerage accounts are actually referred to as "dumb flow". Having access to the order flow and controlling the routing of it can allow them to jump in front of your trade.
For example, they could see that your limit order of $1134 came in when the lowest ask price was $1133.90. They could buy that for $1133.90 and sell it back to you at $1134 for a 10 cent profit.
It's not too much different than in the old days when the market makers would delay buy/sells calls to their pits to their own advantage in order to scrape a small profit on the spread.
They cannot do that. They can't fill you at a worse price than NBBO.
If you are arguing something else happens then you need to explain it clearly step by step in a timeline.
2. Trade gets routed to an HFT who will fill the trade
3. HFT notices a spike in GOOG interest over a few seconds and starts buying at 1133.90 driving the price up to 1134
4. HFT fills your limit order at the best price of 1134 which they themselves hold.
Despite what the other commentators here have said, limit orders are less safe than market orders to market manipulation. HFT's will buy up all that dumb flow with limit orders and then essentially run the prices to the limit orders in their favor.
As far as I know the first case is prohibited (actual front running). I don't see an obvious problem with the second case though there might be subtlety that I am missing.
That's interesting. This sounds like blatent front-running though. I wouldn't have thought this to be legal.
I'm going to ask for a citation on this one.
I remember a similar incident at KRX in 2009, and it resulted in a criminal investigation [1], so that ought to be illegal.
[1] http://www.traderdaily.com/07/koreas-elw-players-get-hfc-wak...
No. Your broker might send order flow to HFT firms for payment. They have to fill you at the national best offer if they want to take the trade.
The other thing that can happen is that if your order is not marketable at the current exchange you are trading at but is marketable at another exchange then the first exchange can sometimes "flash" the order to selected participants to see if they want to fill the order so you can avoid forwarding the order to another exchange.
If it's a limit order the HFT firm is going to immediately decide whether it wants to take the other side of your order (i.e. immediately give you an out that leaves you whole with 10 shares of GOOG at $1134) or whether they don't want the order in which case they might send it directly to a lit venue like NYSE where your order will rest in the open market.
If they take it, from there the firm is going to try to liquidate the position in the market now that they are short 10 shares of GOOG. It is up to their discretion on when they want to even out their portfolio. The idea is that sophisticated traders are able to better time and aggregate retail orders than the retail customer themselves and here is where they make money albeit with a little risk.
For one simple example since you only wanted 10 shares of GOOG typically you would pay a penalty for executing an odd lot (an odd lot is an order that is not an even multiple of 100). If the firm can collect 10 buy orders of 10 then they can avoid the odd lot penalty.
Lewis is saying that in the absence of HFT front-running, you'd get the best available price at the time, say $1129.82. However, he alleges, HFT traders can front-run you and you'll instead pay e.g. $1129.92, meaning you overpaid for the stock. Note that this happens even though what you paid and the best theoretical price are both below your limit. So you're getting robbed, even though it's not apparent to you.
If there is a resting sell order below the limit price of your buy order, nobody will see your buy order. The cross will happen as soon as your order hits the matching engine. You and your counterparty will get trade confirmations via your order entry port, and market data subscribers will see a trade report (10 shares crossed at $XX.YY) and the size of the resting sell order will change.
https://news.ycombinator.com/item?id=7500426
6 points by dcaisen 4 hours ago | flag | discuss [no comments]
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# By Michael Lewis, published in the NYT today
Also I suspect (note I have read the NYT piece) that this is an equally original piece and the Michael Lewis with a book to sell has done similar interviews (or other PR such as press releases) with as many relevant publications as possible.
Definitely worth reading.
The piece here is fine for promting discussion but the info in the original work would make that discussion better. Its simple to Delete your cookies and/or just use incognito if the NYT is being a PITA.
If you're more interested in getting out a few milliseconds sooner than in getting a better price then the front-runner is doing you a service. Otherwise, it seems like the time needed to run a brief auction would be well-spent.
You don't trade with the first buyer or seller that comes along you trade with the buyer or seller that submits the best price. If a whole bunch of them submit the same price you trade with the one that does it first (hence all the effort HFTs put into moving faster).
From what I read, HFT is limited to people with large amount of money both to start and put their money in.
I think 30 years ago, HFT traders would've spent jail time.
There's nothing illegal about an industry with high capital costs.
This has the negative side effect of essentially making it impossible to buy for the listed price, even when there are supposedly enough shares available for purchase at that price.
As I pointed out in another comment, it's not just buying low and selling high; it's like Walmart interrupting a customer to jack up the prices on a purchase in the middle of that purchse, precisely because that customer is buying that specific item.
Say you decide you want to buy up a bunch of property that's all on one street, and the market price for each property is listed at $100,000. Once word gets out that you made the first purchase for $100k, the prices on those other properties are going to go up, because if there's a buy at $100k, they might as well start negotiating at $110k, but they have no idea if there's a buyer who wants just one property, or all of them.
Now, only the buyer know how much he wants to buy. If he was smart, he'd go to each seller and execute at the exact same time so when word gets out of a purchase and prices go up, he's already purchased everything he wanted, the uptick in market prices actually benefits him.
It's the same thing with trading. If the guy is buying a couple thousand shares scattered across a dozen exchanges, he absolutely needs to make sure they get posted to the exchange at the same time, or he needs to break them up in small orders over a period of time so he doesn't affect the market with his purchases.