High Frequency Trading - HFT
High frequency trading, also known in the financial world by its English name high-frequency trading (HFT), is a type of negotiation where a large number of buy and sell stock orders are launched into the market, with a speed of hundreds or thousands of orders in fractions of a second.
With this sending of orders, high-frequency machines flood the market with orders (this does not mean that they are all executed), since in many cases they have no counterpart to buy or sell them. The market works like this, there must be someone on the other side of the price table who is willing to buy or sell.
High frequency trading and market manipulation
To this excessive proportion of orders in the market there are many authors who consider them to be market manipulation, due to the creation of micro trends. Others, on the other hand, consider a crime the fact that they seek low latencies, something fundamental for the development of their activity. HFTs need the response time between their computers and those in the markets to be as low as possible. Therein lies its comparative advantage.
The HFT is carried out in the financial markets intensively using sophisticated technological tools to obtain market information and based on it launch the orders to the market, being carried out with a multitude of financial assets such as stocks or even financial options.
There are numerous theories for and against HFT, many of them criticize the speed with which these operations are made and the short time they are kept in the portfolio, while the others defend these systematic trading systems for the liquidity they offer to the market. market by always maintaining counterparts on both sides of the price table.
The volume traded in the markets by these "operators" reaches very high levels. Especially in the daily stock volumes of liquid markets.
Where are the high frequency machines located?
Its sophisticated computers are physically located in close proximity to the computer systems of exchanges and other trading platforms. This allows them, in fact, to see the orders of the real investors before anyone else and to anticipate. The principle of equal access to markets is thus broken, and there are many who affirm that HFTs systematically perform front running (illegal practice where the operator takes advantageous positions due to the fact that they can see them before on behalf of third parties), something prohibited by regulation.
Arbitrage between markets or financial assets has disappeared for traders. You can't compete against a machine that sends orders a million times faster.Although this is positively valuable because they align the market at the speed of light, but on the other hand they make many intermediaries and jobs disappear (little by little the machines are replacing the human machine).
Before naming the risks and possible solutions, it should be noted that there are detractors such as defenders.
What are the risks of high frequency trading?
These are some of the risks involved in doing this practice:
- Operational risks: Failures of the networks of the markets that are highly interconnected.
- Risks to the integrity of the market: Due to abuse, manipulation and front running.
- Risks to financial stability: It negatively affects the confidence of real investors.
What solutions are there?
Possible solutions to these risks include:
- Review your regulation.
- Higher capital requirements for HFTs.
- Limit the ratio of orders and operations.
- Limit the time a title must be kept on the market.
Below is a video of the flash crash corresponding to May 6, 2010 the index Dow Jones Industrial Average It plunged close to 1000 points, or roughly 9%, to recoup that loss in just a few minutes, and where some traders won and lost huge amounts of money.