• C++ Programming for Financial Engineering
    Highly recommended by thousands of MFE students. Covers essential C++ topics with applications to financial engineering. Learn more Join!
    Python for Finance with Intro to Data Science
    Gain practical understanding of Python to read, understand, and write professional Python code for your first day on the job. Learn more Join!
    An Intuition-Based Options Primer for FE
    Ideal for entry level positions interviews and graduate studies, specializing in options trading arbitrage and options valuation models. Learn more Join!

NYT Article: Traders Profit With Computers Set at High Speed

Hifreq trading, a hot topic for quite some time, now made it to the front page of NYT.

Traders Profit With Computers Set at High Speed - NYTimes.com

By CHARLES DUHIGG
It is the hot new thing on Wall Street, a way for a handful of traders to master the stock market, peek at investors' orders and, critics say, even subtly manipulate share prices.

It is called high-frequency trading — and it is suddenly one of the most talked-about and mysterious forces in the markets.

Powerful computers, some housed right next to the machines that drive marketplaces like the New York Stock Exchange, enable high-frequency traders to transmit millions of orders at lightning speed and, their detractors contend, reap billions at everyone else's expense.

These systems are so fast they can outsmart or outrun other investors, humans and computers alike. And after growing in the shadows for years, they are generating lots of talk.

Nearly everyone on Wall Street is wondering how hedge funds and large banks like Goldman Sachs are making so much money so soon after the financial system nearly collapsed. High-frequency trading is one answer.

And when a former Goldman Sachs programmer was accused this month of stealing secret computer codes — software that a federal prosecutor said could "manipulate markets in unfair ways" — it only added to the mystery. Goldman acknowledges that it profits from high-frequency trading, but disputes that it has an unfair advantage.

Yet high-frequency specialists clearly have an edge over typical traders, let alone ordinary investors. The Securities and Exchange Commission says it is examining certain aspects of the strategy.

"This is where all the money is getting made," said William H. Donaldson, former chairman and chief executive of the New York Stock Exchange and today an adviser to a big hedge fund. "If an individual investor doesn't have the means to keep up, they're at a huge disadvantage."

For most of Wall Street's history, stock trading was fairly straightforward: buyers and sellers gathered on exchange floors and dickered until they struck a deal. Then, in 1998, the Securities and Exchange Commission authorized electronic exchanges to compete with marketplaces like the New York Stock Exchange. The intent was to open markets to anyone with a desktop computer and a fresh idea.

But as new marketplaces have emerged, PCs have been unable to compete with Wall Street's computers. Powerful algorithms — "algos," in industry parlance — execute millions of orders a second and scan dozens of public and private marketplaces simultaneously. They can spot trends before other investors can blink, changing orders and strategies within milliseconds.

High-frequency traders often confound other investors by issuing and then canceling orders almost simultaneously. Loopholes in market rules give high-speed investors an early glance at how others are trading. And their computers can essentially bully slower investors into giving up profits — and then disappear before anyone even knows they were there.

High-frequency traders also benefit from competition among the various exchanges, which pay small fees that are often collected by the biggest and most active traders — typically a quarter of a cent per share to whoever arrives first. Those small payments, spread over millions of shares, help high-speed investors profit simply by trading enormous numbers of shares, even if they buy or sell at a modest loss.

"It's become a technological arms race, and what separates winners and losers is how fast they can move," said Joseph M. Mecane of NYSE Euronext, which operates the New York Stock Exchange. "Markets need liquidity, and high-frequency traders provide opportunities for other investors to buy and sell."

The rise of high-frequency trading helps explain why activity on the nation's stock exchanges has exploded. Average daily volume has soared by 164 percent since 2005, according to data from NYSE. Although precise figures are elusive, stock exchanges say that a handful of high-frequency traders now account for a more than half of all trades. To understand this high-speed world, consider what happened when slow-moving traders went up against high-frequency robots earlier this month, and ended up handing spoils to lightning-fast computers.

It was July 15, and Intel, the computer chip giant, had reporting robust earnings the night before. Some investors, smelling opportunity, set out to buy shares in the semiconductor company Broadcom. (Their activities were described by an investor at a major Wall Street firm who spoke on the condition of anonymity to protect his job.) The slower traders faced a quandary: If they sought to buy a large number of shares at once, they would tip their hand and risk driving up Broadcom's price. So, as is often the case on Wall Street, they divided their orders into dozens of small batches, hoping to cover their tracks. One second after the market opened, shares of Broadcom started changing hands at $26.20.

The slower traders began issuing buy orders. But rather than being shown to all potential sellers at the same time, some of those orders were most likely routed to a collection of high-frequency traders for just 30 milliseconds — 0.03 seconds — in what are known as flash orders. While markets are supposed to ensure transparency by showing orders to everyone simultaneously, a loophole in regulations allows marketplaces like Nasdaq to show traders some orders ahead of everyone else in exchange for a fee.

In less than half a second, high-frequency traders gained a valuable insight: the hunger for Broadcom was growing. Their computers began buying up Broadcom shares and then reselling them to the slower investors at higher prices. The overall price of Broadcom began to rise.

Soon, thousands of orders began flooding the markets as high-frequency software went into high gear. Automatic programs began issuing and canceling tiny orders within milliseconds to determine how much the slower traders were willing to pay. The high-frequency computers quickly determined that some investors' upper limit was $26.40. The price shot to $26.39, and high-frequency programs began offering to sell hundreds of thousands of shares.

The result is that the slower-moving investors paid $1.4 million for about 56,000 shares, or $7,800 more than if they had been able to move as quickly as the high-frequency traders.

Multiply such trades across thousands of stocks a day, and the profits are substantial. High-frequency traders generated about $21 billion in profits last year, the Tabb Group, a research firm, estimates.

"You want to encourage innovation, and you want to reward companies that have invested in technology and ideas that make the markets more efficient," said Andrew M. Brooks, head of United States equity trading at T. Rowe Price, a mutual fund and investment company that often competes with and uses high-frequency techniques. "But we're moving toward a two-tiered marketplace of the high-frequency arbitrage guys, and everyone else. People want to know they have a legitimate shot at getting a fair deal. Otherwise, the markets lose their integrity."
 

DominiConnor

Quant Headhunter
Wirelessly posted (Mozilla/5.0 (Windows; U; Windows NT 5.1; en-GB; rv:1.9.0.11) Gecko/2009060215 Firefox/3.0.11)

This is an outstandingly bogus article, what happens when arts graduates attempt to understand anything except celebrity gossip.


>It is the hot new thing on Wall Street,
The first algotrading I encountered was in the early 1990s at Deutsche, and they senior guys there told me of some of the mid80s stuff they'd done.
Not new.

>a way for a handful of traders to master the stock market,
Although algotrading is not exactly mass market, it is about as exclusive an activity as getting drunk.

>peek at investors' orders
That's not algotrading.

>and, critics say, even subtly manipulate share prices.
A major topic in algotrading is actually market impact modelling, ie working out how to make prices move less when they trade.


>Nearly everyone on Wall Street is wondering how hedge funds and large banks like Goldman Sachs are making so much money so soon after the financial system nearly collapsed. High-frequency >trading is one answer.
Actually they're working out how to employ these guys since they've often been shafted by the GS bonus scheme.


>software that a federal prosecutor said could "manipulate markets in unfair ways" — it only added to the mystery.
He was fed this line by GS as part of a dispute over an algotrader's pay. There is no suggestion that GS was being "unfair", just addressing the issues caused by GS having an inferior tech infrastructure for AT than may competitors.

>"This is where all the money is getting made," said William H. Donaldson".
I'd love to see the original quote before editing. Bet it was a lot less sexy.


>For most of Wall Street's history, stock trading was fairly straightforward:
For an arts graduate the writer is terribly ignorant of history, as well as trading.
For instance is he not aware of how the Kennedy family got rich as part of causing the crash of 1929 ?

>Joseph M. Mecane of NYSE Euronext, which operates the New York Stock Exchange. "Markets need liquidity, and high-frequency traders provide opportunities for other investors to buy and sell."
It's more complex than that. Some ATs are consumers of liquidity, others provide it, and there exist models that imply that heavy AT activity drives liquidity away.

>Average daily volume has soared by 164 percent since 2005, according to data from NYSE. Although precise figures are elusive,
164% is a surprisingly "precise" figure, which PR bunny fed that to him ? Wonder why the PR wouldn't give more ?


>"The result is that the slower-moving investors paid $1.4 million for about 56,000 shares, or $7,800 more than if they had been able to move as quickly as the high-frequency traders."
That's really quite amazingly precise. So precise that I believe not a word of it.
 

doug reich

Some guy
This is an outstandingly bogus article, what happens when arts graduates attempt to understand anything except celebrity gossip.

Most of what you disagree with is commonly referred to as "nitpicking". Although most of the statements in the article are universal, if you qualify them with some "many"s or "some"s, then you might actually come to agree with it.
 

alain

Older and Wiser
more of the same

http://www.nytimes.com/2009/07/25/business/25trading.html?src=linkedin
Senator Wants Restrictions on High-Speed Trading

By CHARLES DUHIGG
A high-ranking lawmaker has asked the Securities and Exchange Commission to prohibit a trading technique that enables some large banks and hedge funds to peek at investors’ stock orders before they are sent to the broader marketplace.

The technique, known as flash orders, gives high-frequency traders using lightning-fast computers an unfair advantage, Senator Charles E. Schumer, the New York Democrat who is chairman of the Senate rules and administration committee, said in a letter to the S.E.C. Mr. Schumer wrote that he intended to introduce legislation barring the technique, if the agency failed to act.

“The hallmark of our markets are that they are open and above board and the little guy has as much of a chance as the big guy,” Mr. Schumer said in an interview. “This takes a dagger to the heart of that concept.”

The S.E.C. declined to comment on Mr. Schumer’s letter, though some officials acknowledged they were investigating the technique and expected new regulations to be issued by this fall.

When buy or sell orders are submitted to marketplaces like Nasdaq, they are sometimes flashed to a collection of high-frequency traders for just 30 milliseconds — 0.03 seconds — before they are routed to everyone else. In that half-second, fast-moving computer software can gain valuable insights regarding growing or declining demand in certain stocks, and can trade ahead of other market participants, pushing prices up or down.

Although anyone can gain access to flash orders by paying a fee, they are useful only to traders who have computers powerful enough to act on the data within milliseconds. In recent years, some of the largest financial companies, including Goldman Sachs, have earned enormous profits with such computers, which are very expensive and often housed right next to the machines that power the marketplaces themselves.

While markets are supposed to ensure transparency by showing orders to everyone simultaneously, flash orders are currently allowed because of a loophole in securities regulations that allows for immediate trades.

“I’m against anything that advantages anybody over the rest of the market, and this clearly does, even though it’s momentary,” said Arthur Levitt, who headed the S.E.C. from 1993 to 2001, and today works as an adviser to Goldman Sachs and Getco L.L.C., one of the largest high-frequency trading firms.

The exchanges that offer flash orders — Nasdaq, Direct Edge and BATS — all declined to comment on Mr. Schumer’s letter. In the past, Nasdaq has defended flash orders. A company spokesman, Wayne Lee, wrote that the market’s “hope is that by having the ability to Flash participants, this functionality will make our customers more competitive.”

This debate comes amid growing concern over high-frequency trading, which has helped push the average daily volume on the nation’s stock exchanges up by 164 percent since 2005. Although precise figures are elusive, stock exchanges say that a handful of high-frequency traders now account for more than half of all trades and collected about $21 billion in profits last year, according to the research firm the Tabb Group.
 

doug reich

Some guy
I actually think it's a valid objection. What real purpose are these people playing the market? The liquidity they provide is comparable to the "protection" the mafia provide, and you're better off without.
 
Top