Recently a Luddite mentality has worked its way into the debates centered around High Frequency Trading and the effect it might, or might not have, on the overall market. Let’s understand something right away: Not all HFT is the same. There needs to be a basic understanding of a strategy which now makes up an estimated 50 to 70 percent of overall exchange volume. It becomes painfully obvious to those of us who are veterans of the industry that there is a basic misunderstanding of what HFT is and how it contributes to the market. The upcoming anniversary of the ‘flash crash’, which put the entire subject in the spotlight, needs to be understood before ‘new regulations’ are imposed to stop them from happening. That isn’t to say that nothing should be done, on the contrary, I think there needs to be a coordinated effort by various regulators to enforce certain rules and regulations. (Equities are governed by the SEC while futures are governed by the CFTC) There are predatory programs which need to be understood and monitored and the concept of having a dislocation caused by two different sets of regulations is confusing.
Too often the general public is confused by equating HFT with ‘trading in front of customer orders’. If a HFT system or trader is caught trading in front of customer orders then the rules are very clear on what the consequences for such an action might be. Fines, prison etc… Unfortunately it’s not a question of adding new regulations to the books: Believe me, we have more than enough. It’s making sure the regulators who are watching the markets understand what they are watching…Period.
If you listen closely you can hear the exact same arguments about HFT as you did about Index arbitrage and program trading in the 1980’s. If you remember, the entire financial community was up in arms in 1987 because they were convinced that a bunch of traders in Chicago were responsible for a near market meltdown. History not only exonerated the futures markets but many market historians such as the late Merton Miller would have argued that they saved the system from real collapse because of the liquidity which was provided through the mark to market(Something which does not exist in Stocks).
So why don’t people like HFT? It’s because they make money, plain and simple.
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