Do HFTs increase liquidity or just volume?
Sapient’s David Donovan brought up a question that is being echoed in many places. Are HFT liquidity providers actually providing liquidity or do they just create volume? Here’s a video in which TabbFORUM Editor Greg Crawford talks with Donovan on this subject after the conference.
The high quote-to-cancel rates create a challenging environment for investors looking for real liquidity. The quotes are barely accessible due to their short validity durations. The panel discussed various options that have been under consideration including quote-to-fill ratios, minimum order durations and cancellation surcharges. No option seemed particularly attractive.
The question about liquidity versus volume is an important one. I’ve heard estimates that nearly 70 percent of all volume in the equities market now comes from HFT strategies. If most of the volume is from the HFTs then are they just executing against each other?
Another estimate places volume in the dark pools at 30 percent. Interesting correlation. This raises a question: is most of the “real” liquidity actually hidden away in the dark pools? The correlation of these statistics suggests that a substantial portion of institutional volume is probably being executed in the dark.
Do we need a level playing field?
In the video, Donovan says he’d like to see a level playing field where everyone gets the same data at the same time. But what would this level playing field look like? Do we take away all the technology advancements and slow down data feeds so that no one receives data faster than the slowest buy-side shop located on the west coast subscribing to an aggregated feed?
Or should some benevolent entity grant free technology to all the tech laggards to catch them up with the fastest HFT players? If a firm is able and willing to invest in the technology and infrastructure necessary to process data as fast as possible, then why shouldn’t that firm be able to profit from its investments?
This same buy-side contingent has made extensive investments in portfolio analytics, advanced risk analysis and other technology to help ensure that they get the best returns for their clients. Should we also share that technology with every retail investor to ensure that they can compete with the institutional flow?
Are all the HFTs the same?
The buy-side concern about HFT is real and it’s impacting investor confidence. But in many ways, HFT is getting a bad rap when really, there are many legitimate players, including buy side shops adopting these strategies.
Last year, Bernard Donefer published an outstanding essay about high frequency trading. He made the point that “Referring to HFT as one undifferentiated practice obscures the benefits and risks in each business model. Many press criticisms leveled at HFT are really only relevant to specific (and sometimes already illegal) strategies and only serve to confuse the public.”
This is a hot topic and my opinion is only one of many. I’d love to hear your comments.