It is absolutely NOT based on that assumption. In fact most MBAs are taught that the market is at near perfect efficiency, and thus you can only do as well as the market, and then goes on to teach how to manage a portfolio to achieve it. HFT bring the market closer to efficiency. Probably why day traders are crying.
I've seem what happens when the market makers and liquidity providers pull out. The liquidity dries up. Not completely, but the spreads widen and it's much harder to trade: If you have a large position to unwind, it'll happen much more slowly AND have a large effect on the price. Plus, how much do you think Alice and Bob will want to ask/bid when the quotes published are $2.50 x $2.80? You think the midpoint is the best option? That's very unlikely - more likely you're either over or underpaying atthe midpoint. Without the market maker you have less idea of the best price. Plus in your examplle, either the buyer or seller could join the ask or the bid and trade just like the market maker. If they're that certain of their price. If they traded with each other on the exchange, it would either trade at $1.00 or at $1.02, depending who was passive - got to the book first. They wouldn't trade at $1.01 as you seem to think.
You're right that rebates aren't necessary anymore. But that was their original purpose. Of course, removing rebates wouldn't get rid of market makers or HFT. You're wrong about there being no "economic" or "real" trading. It all still works the way it ever did. It's just that information from other, even distant, markets is accounted for much quicker - so it's harder to understand. If market prices are no longer related to fundamentals anymore, that would imply you couldn't explain why, for example, the Facebook IPO failed miserably. But I bet you, among many others, know exactly why Facebook took such a dive, eh?
And I tend to use the term slightly loosely, since most of the readership doesn't give a crap about the distinction. BTW you just made a better argument that liquidity is worth something than I ever could. HFT has improved spreads. That benefits everyone. Except the old specialist. That wasn't you, was it?
Duh, they were still going thru a market maker before HFT.
You are bitching about market making not HFT.
HFT market makers cannot churn more than investors need, since they are trading passively, hence they are only matched to investors. You think they trade with themselves all day? Great way to make money.
The flash orders its referring to isn't the practice of flickering I had thought. It's actually an order type that ALLOWS participants to "flash" their orders. You don't want your order "flashed", you never had to. The "flash" refers to forwarding the order AFTER it failed to match anything at the matching engine, to give it another chance of matching something. It was a big non story.
You misunderstand the point. Measures such as: 1. Per trade tax 2. Minimum quote lifetime 3. Cancelation fee... necessarily increase the spreads and reduce liquidity. This is an additional cost to every trade. Thus French companies become costlier and riskier to trade. Wider spreads means higher cost. Lower liquidity makes it harder to adjust positions and is thus riskier.
The articles were misinformed - the person submitting the order had the option of marking the order for "flash". It was the investor who decided whether he wanted his order flashed or not. Also, no one got the order ahead of time - it could only be flashed if it had failed to match the regular way.
I didn't see the whole comment on my phone, so here's a follow up. "They send out their orders to manipulate others to adjust their quotes, which get fed into the HFT algorithms to determine any directionality; then, if an opportunity exists the HFT computers buy or sell shares that someone else has put onto the market. They aren't quoting constantly as bona fide "market-makers" are supposed to do, which they claim they are acting like. They are simply putting out millions of fake bids and offers which they pull almost immediately, just to read the movement of other market participants who react to the HFT come-ons."
This is actually impossible in liquid stocks. You can't "flash" the top-of-book because there are always orders at the top of book. Even in an illiquid symbol only a bot could react fast to a flash or flicker such as described. And once again - I'm totally against such practices. I believe they are manipulative. I also don't believe any of the big HFT players does it (I've worked at 1 and now work at another of the biggest) - partly because there isn't any profit in it.
Question - how would such a flicker affect you? Are you sitting there waiting for the right price to flash up on your screen before slamming your hand down on "BUY"?
That snippet about a 30ms window is bunk. That's not possible, since it's an absolute fact that orders get to the exchange in less than 1ms from submission (local submission - if one wants to get into travel time for the order I'd be happy to, mostly because it doesn't change my point). I've personally timed round trips into and back out of the matching engines at many exchanges.
It *IS* true that some investment banks have internal trading desks, and that they get to fulfill orders internally, if they wish, before sending those orders to an exchange. They would be able to hold the order for some time before forwarding to an exchange. By regulations they still have to execute within the NBBO.
It sounds like some journalist conflated this with HFT and threw in a bunch of assumptions.
BTW You haven't proven anything, except that there is a lot of misinformation out there.
Assuming Alice and Bob are regular investors, they're broker would send the order to the exchange and their orders would trade with the market maker.
The big difference with HFT is the spread is usually 1c whereas with the old specialist (who had the authority, BTW, to lock the book and other obnoxious things) the spreads were at 25c at least!
People are bitching about an HFT market maker making a cent off of each trade, ignore the fact that it's a very difficult strategy to make profitable and has significant risk, and also ignore the fact that before HFT Alice and Bob would be 25 times worse off. They're also ignoring the fact that their broker charges MORE.
You are wrong that the liquidity is already there. How to Alice and Bob decide what price to use? They look at the published quotes. You know where those quotes come from? The market makers' orders.
Lastly, I don't believe you. I don't think people are worrying about 1c. I think they fear 1 millisecond trading, without understanding it. People have very strong opinions about HFT, but without actually knowing anything about it. Read some of the comments... at least 50% of it is just totally made up. Some of it is vicious. Ignorant, obnoxious loud opinions passing rumor around as fact.
The supply and demand curves will change resulting in French stocks being less profitable and less highly traded. Trust me, they will feel it. Or don't trust me: time will tell.
1. So what? Lots of companies have higher message rates than an individual. 2. I responded to this elsewhere. If its not illegal it should be. Manipulation is definitely illegal. 3. Flashing an order doesn't put you in the middle so to speak. What's described is probably an attempt to get bots to react to a flashed quoted by putting up its own ordered which may then be seen in the quote feed. It may be something some traders enter into. But 1. It can't be done on liquid stocks (there isn't enough spread) and 2. I agree it should be illegal.
The article is full of inaccuracies.
Mary Schapiro sounds like she needs a lesson in simple economics.
BTW, market makers have been around for years. These days HFT market makers have narrowed the spreads to $0.01 most of the time... meaning you always trade within $0.01 of the actual value of a stock. Before HFT the market makers kept the spreads at least $0.25 So HFT has made the spread 25 times smaller. Do we get thanks?
Note that your broker charges you way more than the spread costs you.
In your example, Trader #2 wouldn't agree, since $1.02 is over his budget.
Here's how it really works.
All market participants send their orders into the exchange. For simplicity let's stick with limit orders: A limit order is like a budget: I'm willing to pay up to $x for stock y, or I'm willing to sell stock y for as low as $y. Ignoring the open, since it complicates things, during the day all the limit orders are resting (passively) on the book. Generally these passive orders are submitted to the exchange by market makers. In liquid stocks the best buy will be 1c below the best sell - in other words trader P is willing to but at or below prise $X and trader Q is willing to sell at or above $Y and Y - X = $0.01. Since the exchange cannot fulfill those orders by matching them they must rest on the book. Now enter an investor - or actually his broker. He wants the best possible price. Suppose he is buying. In order for him to get a trade, he must be willing to pay at least the minimum sale price - in the example above that would be $Y. If he submits lower than that his order won't trade. If he submits higher he gets price improvement and still matches the best price available of $Y. The exchange cannot match at worse prices than the best bid and ask - and there is a national best bid and ask (NBBO) to protect people. Where does HFT come into this? He's usually P and Q. He's the passive trader. And if you simultaneously submit a 1 lot market order buy and a market order sell for the same stock you will lose $0.01 - this is how the market maker makes money. There is no HFT between you and the exchange. Note - the market maker is actually taking a significant risk. These prices can change rapidly. When they do, aggressive traders send "sweep" orders, which just means they can match several price levels. The exchange matches the market maker's order with the sweep, but the value of it has changed, and the market maker loses a significant amount of money. They avoid this by trying to adjust their prices as quickly as possible. Also - without the market makers you'd have an empty book - and no one to trade with. Make things harder/slower/more expensive for the market maker and the spreads widen - meaning it costs you more to trade. They call this inefficiency. You actually see this in other markets - such as government bonds where they have "work-up" which is very much like a minimum hold time. They are much more inefficient markets - treasuries are expensive to trade partly as a result.
France is considering some of these measures. If they actually implement some of them liquidity will dry up and traders will move to other markets. Trading will become more expensive, which will make investing more expensive. At least in French companies. France will suffer as a whole. With the global economy no one is forced to trade French stocks. I hope France tries it before the US. It will be a perfect example of unintended consequences.
Seriously though, almost all of their regulations concern protecting the investor. I know - I had to learn them for the series 7. The test is 6 hours long.
Given that in highly traded stocks there is a 1c spread, meaning if you simultaneously enter a sell and a buy market order you will lose exactly 1c per share (other than exchange fees and broker fees), how far can the stock be from its "intrinsic" value? Answer: on average 0.5c
What you don't understand is how price discovery occurs. The invisible hand has always existed. HFT makes it work its magic quicker.
People who try to price anything discover that they are constricted - certain prices actually work better than others. They don't necessarily know why.
Slashdot Mirror
Your link doesn't support your argument: according to the article, no one died.
While its true that a knife may be used to kill, that doesn't address the question of gun control at all.
Hell, if you take that argument to the extreme you could argue that everyone should be allowed to carry around a tactical nuke.
Have you actually looked at any of the firearm-related murder statistics by country and compared to the US?
http://en.wikipedia.org/wiki/List_of_countries_by_firearm-related_death_rate
Firearm-related homicides per 100,000:
USA 2.98
UK 0.03
Yeah - having fewer guns in a country has no effect on gun violence.
And if the killer had had no gun no one would have been shot.
Give this guy a mod point.
Yeah sure, Mom thinks for the rest of her life "If only I could have shot the murderer that killed my kid".
Bullshit - giving Mom a gun wouldn't necessarily prevent the kid from being shot. Taking the gun from the killer would.
Many countries statistics would disagree with you.
Most, actually.
It is absolutely NOT based on that assumption.
In fact most MBAs are taught that the market is at near perfect efficiency, and thus you can only do as well as the market, and then goes on to teach how to manage a portfolio to achieve it.
HFT bring the market closer to efficiency.
Probably why day traders are crying.
I've seem what happens when the market makers and liquidity providers pull out. The liquidity dries up. Not completely, but the spreads widen and it's much harder to trade: If you have a large position to unwind, it'll happen much more slowly AND have a large effect on the price.
Plus, how much do you think Alice and Bob will want to ask/bid when the quotes published are $2.50 x $2.80? You think the midpoint is the best option? That's very unlikely - more likely you're either over or underpaying atthe midpoint.
Without the market maker you have less idea of the best price.
Plus in your examplle, either the buyer or seller could join the ask or the bid and trade just like the market maker. If they're that certain of their price. If they traded with each other on the exchange, it would either trade at $1.00 or at $1.02, depending who was passive - got to the book first. They wouldn't trade at $1.01 as you seem to think.
You're right that rebates aren't necessary anymore. But that was their original purpose.
Of course, removing rebates wouldn't get rid of market makers or HFT.
You're wrong about there being no "economic" or "real" trading. It all still works the way it ever did. It's just that information from other, even distant, markets is accounted for much quicker - so it's harder to understand.
If market prices are no longer related to fundamentals anymore, that would imply you couldn't explain why, for example, the Facebook IPO failed miserably. But I bet you, among many others, know exactly why Facebook took such a dive, eh?
There are secondary market makers.
And I tend to use the term slightly loosely, since most of the readership doesn't give a crap about the distinction.
BTW you just made a better argument that liquidity is worth something than I ever could.
HFT has improved spreads. That benefits everyone. Except the old specialist. That wasn't you, was it?
Duh, they were still going thru a market maker before HFT.
You are bitching about market making not HFT.
HFT market makers cannot churn more than investors need, since they are trading passively, hence they are only matched to investors.
You think they trade with themselves all day? Great way to make money.
The flash orders its referring to isn't the practice of flickering I had thought.
It's actually an order type that ALLOWS participants to "flash" their orders. You don't want your order "flashed", you never had to. The "flash" refers to forwarding the order AFTER it failed to match anything at the matching engine, to give it another chance of matching something.
It was a big non story.
Most importantly, they were discontinued:
http://en.wikipedia.org/wiki/Flash_trading
Sorry for the confusion.
You misunderstand the point. ... necessarily increase the spreads and reduce liquidity. This is an additional cost to every trade. Thus French companies become costlier and riskier to trade.
Measures such as:
1. Per trade tax
2. Minimum quote lifetime
3. Cancelation fee
Wider spreads means higher cost. Lower liquidity makes it harder to adjust positions and is thus riskier.
Actually, now I know what the 30ms they are talking about is.
It isn't possible anymore. All current equities venues have dropped support for them. Not long after they allowed them, actually.
More info here: http://en.wikipedia.org/wiki/Flash_trading
The articles were misinformed - the person submitting the order had the option of marking the order for "flash". It was the investor who decided whether he wanted his order flashed or not. Also, no one got the order ahead of time - it could only be flashed if it had failed to match the regular way.
I didn't see the whole comment on my phone, so here's a follow up.
"They send out their orders to manipulate others to adjust their quotes, which get fed into the HFT algorithms to determine any directionality; then, if an opportunity exists the HFT computers buy or sell shares that someone else has put onto the market. They aren't quoting constantly as bona fide "market-makers" are supposed to do, which they claim they are acting like. They are simply putting out millions of fake bids and offers which they pull almost immediately, just to read the movement of other market participants who react to the HFT come-ons."
This is actually impossible in liquid stocks. You can't "flash" the top-of-book because there are always orders at the top of book. Even in an illiquid symbol only a bot could react fast to a flash or flicker such as described. And once again - I'm totally against such practices. I believe they are manipulative. I also don't believe any of the big HFT players does it (I've worked at 1 and now work at another of the biggest) - partly because there isn't any profit in it.
Question - how would such a flicker affect you? Are you sitting there waiting for the right price to flash up on your screen before slamming your hand down on "BUY"?
That snippet about a 30ms window is bunk. That's not possible, since it's an absolute fact that orders get to the exchange in less than 1ms from submission (local submission - if one wants to get into travel time for the order I'd be happy to, mostly because it doesn't change my point). I've personally timed round trips into and back out of the matching engines at many exchanges.
It *IS* true that some investment banks have internal trading desks, and that they get to fulfill orders internally, if they wish, before sending those orders to an exchange. They would be able to hold the order for some time before forwarding to an exchange. By regulations they still have to execute within the NBBO.
It sounds like some journalist conflated this with HFT and threw in a bunch of assumptions.
BTW You haven't proven anything, except that there is a lot of misinformation out there.
The thing is that has nothing to do with HFT.
Assuming Alice and Bob are regular investors, they're broker would send the order to the exchange and their orders would trade with the market maker.
The big difference with HFT is the spread is usually 1c whereas with the old specialist (who had the authority, BTW, to lock the book and other obnoxious things) the spreads were at 25c at least!
People are bitching about an HFT market maker making a cent off of each trade, ignore the fact that it's a very difficult strategy to make profitable and has significant risk, and also ignore the fact that before HFT Alice and Bob would be 25 times worse off.
They're also ignoring the fact that their broker charges MORE.
You are wrong that the liquidity is already there. How to Alice and Bob decide what price to use? They look at the published quotes. You know where those quotes come from? The market makers' orders.
Lastly, I don't believe you. I don't think people are worrying about 1c. I think they fear 1 millisecond trading, without understanding it.
People have very strong opinions about HFT, but without actually knowing anything about it. Read some of the comments... at least 50% of it is just totally made up. Some of it is vicious. Ignorant, obnoxious loud opinions passing rumor around as fact.
The supply and demand curves will change resulting in French stocks being less profitable and less highly traded. Trust me, they will feel it.
Or don't trust me: time will tell.
1. So what? Lots of companies have higher message rates than an individual.
2. I responded to this elsewhere. If its not illegal it should be. Manipulation is definitely illegal.
3. Flashing an order doesn't put you in the middle so to speak. What's described is probably an attempt to get bots to react to a flashed quoted by putting up its own ordered which may then be seen in the quote feed. It may be something some traders enter into. But 1. It can't be done on liquid stocks (there isn't enough spread) and 2. I agree it should be illegal.
The article is full of inaccuracies.
Mary Schapiro sounds like she needs a lesson in simple economics.
BTW, market makers have been around for years. These days HFT market makers have narrowed the spreads to $0.01 most of the time... meaning you always trade within $0.01 of the actual value of a stock. Before HFT the market makers kept the spreads at least $0.25
So HFT has made the spread 25 times smaller. Do we get thanks?
Note that your broker charges you way more than the spread costs you.
In your example, Trader #2 wouldn't agree, since $1.02 is over his budget.
Here's how it really works.
All market participants send their orders into the exchange. For simplicity let's stick with limit orders: A limit order is like a budget: I'm willing to pay up to $x for stock y, or I'm willing to sell stock y for as low as $y.
Ignoring the open, since it complicates things, during the day all the limit orders are resting (passively) on the book. Generally these passive orders are submitted to the exchange by market makers. In liquid stocks the best buy will be 1c below the best sell - in other words trader P is willing to but at or below prise $X and trader Q is willing to sell at or above $Y and Y - X = $0.01. Since the exchange cannot fulfill those orders by matching them they must rest on the book.
Now enter an investor - or actually his broker. He wants the best possible price. Suppose he is buying. In order for him to get a trade, he must be willing to pay at least the minimum sale price - in the example above that would be $Y. If he submits lower than that his order won't trade. If he submits higher he gets price improvement and still matches the best price available of $Y.
The exchange cannot match at worse prices than the best bid and ask - and there is a national best bid and ask (NBBO) to protect people.
Where does HFT come into this? He's usually P and Q. He's the passive trader. And if you simultaneously submit a 1 lot market order buy and a market order sell for the same stock you will lose $0.01 - this is how the market maker makes money.
There is no HFT between you and the exchange.
Note - the market maker is actually taking a significant risk. These prices can change rapidly. When they do, aggressive traders send "sweep" orders, which just means they can match several price levels. The exchange matches the market maker's order with the sweep, but the value of it has changed, and the market maker loses a significant amount of money. They avoid this by trying to adjust their prices as quickly as possible.
Also - without the market makers you'd have an empty book - and no one to trade with.
Make things harder/slower/more expensive for the market maker and the spreads widen - meaning it costs you more to trade. They call this inefficiency.
You actually see this in other markets - such as government bonds where they have "work-up" which is very much like a minimum hold time. They are much more inefficient markets - treasuries are expensive to trade partly as a result.
What industry pays additional bills?
Printing money, I guess.
You realize that companies that sell services or products don't CREATE the money they pay their employees? It comes from somewhere.
France is considering some of these measures.
If they actually implement some of them liquidity will dry up and traders will move to other markets. Trading will become more expensive, which will make investing more expensive. At least in French companies. France will suffer as a whole. With the global economy no one is forced to trade French stocks.
I hope France tries it before the US. It will be a perfect example of unintended consequences.
Something that only brokers can do, and it's orthogonal to HFT.
I've never worked for a broker.
They're not called the morality commission.
Seriously though, almost all of their regulations concern protecting the investor. I know - I had to learn them for the series 7. The test is 6 hours long.
Given that in highly traded stocks there is a 1c spread, meaning if you simultaneously enter a sell and a buy market order you will lose exactly 1c per share (other than exchange fees and broker fees), how far can the stock be from its "intrinsic" value? Answer: on average 0.5c
What you don't understand is how price discovery occurs. The invisible hand has always existed. HFT makes it work its magic quicker.
People who try to price anything discover that they are constricted - certain prices actually work better than others. They don't necessarily know why.