The truth about HFT

High Frequency Trading, HFT, manupulation

High Frequency Trading, HFT, manupulationThere is often talk of HFT, the High-Frequency Trading, but around the subject, there are still many unanswered questions, and for many "HFT" is only an acronym. Actually, it hides much more and it is good to thoroughly analyse the subject.



What is hidden behind the HFT acronym?

Impressions and opinions on the subject are discordant. On the one hand, who argues that increasing computer execution speed has contributed to worsening our living conditions, stifling free time and pushing the human being to race against time. On the other hand, those who believe that technology and the creation of more and more intelligent and powerful systems are a life-enhancing, an aid to developing their capabilities.

I pose in the middle. I believe that the use of technology must be done with intelligence, even sparingly. Any tool we use should streamline our tasks to allow us to have time, the time to devote to the important things.

That said, we see a bit as technology is combined with trading.


The meaning of HFT

First of all, we can give a definition starting with the letters that make up the acronym. HFT stands for high-frequency trading. It is a pretty talking name, but let's find out what that is all about, because, as we will see in the article, the HTFs will affect, and not little, our activity, at the moment we decide to invest our money.

High-Frequency trading is a form of trading based on very advanced technology tools and on computers that use complex algorithms to buy or sell securities in a very, very fast way.

Even the strategies put on the market by HFT are made by computers that need to have sophisticated calculations to market them. Unlike normal investment, where more medium and long-term opportunities are sought, an HFT position may last only a few seconds or even fractional seconds; in this very short time the computer opens and closes thousands of positions, and this can happen thousands of times a day.

The competition takes place on the timing, on the speed of running the strategies and the profits obtained in the shortest possible time. In the pursuit of higher profits, inevitably, we come up with greater risks. Indeed, it has been widely demonstrated that the ratio between profit and risk is thousands of times higher than normal buying and selling strategies.

What determines the success of HFT? In a nutshell, the ability to process information, skills that cannot be acquired for humans. That's why you have to have powerful computers to analyse billions of data per second, and accordingly, decide what to do. Not only. In addition to computers, you also need network infrastructures, intranet and internet, very particular.


How do HFTs work?

Behind the emergence of HFTs lie certain theories: among them, the most corroborated is that of market makers. Let's start by saying that market makers are the market giants. Those who, in fact, "move the market": banks, very large companies, usually called "institutional". Supported by computers, these traders place orders for purchases, sales and related limit orders to counter or beat other market orders. With a simple move, they can execute orders faster than anyone else.

Another way the HFTs work is to collect market data, such as stock prices and the number of trade shares. By observing the flow of quotas, HFT computers can extract information that has not yet been disclosed. Based on these data they place their orders on the market.

Then, there is the arbitrage, which is still another way, and here the HFTs gain from the price difference on an underlying – equity or bond – traded in different markets. For example, I buy an equity on a stock market and I open, at the same time, a selling position (of the same equity) on another one. In this situation, some news, a legal ruling, a merger, or the announcement of a new product may result in a price drop or rise in the equity price. The high-frequency traders are able to get out of the positions quickly and beat all the others in timing.


Everything nice, but let's analyse the disadvantages

While supporters rely on HFT's ability to increase market liquidity, critics, on the other hand, claim that their business destabilizes the financial environments.

The high-frequency trading software is among the causes that led to the collapse of the Dow Jones on May 6, 2010, a historic moment called “Flash Crash”. The stock market opened an investigation after the event, and it took almost 5 months to get the ideas a bit clearer about the dynamics of that trading day. The result of the investigation revealed that the market at that time was particularly fragmented and that there was a single large transaction from high-frequency software that resulted in a strong stock price variation. From there the collapse.

In the following years, discussions about how and how much to limit the use of this kind of software varied. But in fact, to date, there are no rules. Definitely not easy on a practical level, but the technology is there. I am thinking it is difficult to act when there are big players in the game, considering also that in America, in 2010, 70% of equity transactions were managed by HFT, and their popularity has continued to grow and not only in the United States.


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