Controversial High-Frequency Trading Yields Billions in Profits
There is a great article in the New York Times discussing how speed is a big advantage for high-frequency traders who saw profits as high as $21 billion last year 2008 according to the Tabb Group research firm. Lax exchange rules are giving those with the best technology a huge advantage that some believe shouldn’t be allowed.
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.
One of the biggest players in this game is Goldman Sachs (GS) who apparently admitted they participated in high-frequency trading but stated they do not have an unfair competitive advantage. Recently a former Goldman Sachs employee was accused of stealing secret coding that allowed Goldman Sachs to do its business. With such secretive technology Goldman may not have a big advantage over other high-frequency traders but has a huge advantage over other investors.
The article goes on to describe an example with Intel’s (INTC) earnings causing Broadcom’s (BRCM) stock to also jump after hours. Just a 30 millisecond advantage from high speed traders brought in thousands of dollars in profits in a very short period of time at the expense of slower traders.
I am on the fence with this whole high-frequency trading gig. While I believe investors should be able to use technology to maximize efficiency and give themselves an edge, paying a fee to have access to other investors’ orders before they are made is just dirty.
UPDATE 08/01/09: Flash orders are the problem, not high frequency traders!!
UPDATE 08/06/09: NASDAQ, BATS to stop offering flash trading. SEC Moving towards banning the practice all together!
Source:
Stock Traders Find Speed Pays, in Milliseconds
CHARLES DUHIGG
New York Times, July 23, 2009
It’s more than dirty.
Front-running is against the law.
I will be very surprised if this does not get banned by the SEC in the future. I can’t see this going on forever with the whole public knowing what the NASDAQ is doing.
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