Nanex Research

Nanex ~ 07-Apr-2015 ~ HFT Defined

The term HFT (High Frequency Trading) is often confused with electronic trading, which was the subject of this paper. In simple terms, electronic trading brought down costs, while High Frequency Trading brought down ethics.

HFT Defined

HFT is defined as types of automated trading strategies that are typically conducted by a proprietary firm (registered as either a broker/dealer or as an investment firm (hedge fund) trading through a broker/dealer) or a proprietary trading group operating within a bank or large broker/dealer; and where the potential for profit is heavily dependent on the use of low-latency technology (including, but not limited to colocation, direct market data feeds, microwave, FPGA, lasers, cross-connects); and where the nature of the trading strategy is to react and attempt to profit in ways that are not dependent on the fundamentals of any particular security but rather from the recognition of market “events”; or to effect market events that can lead to short-term profitable trading opportunities. Here is a partial list of such events:

  1. Direct recognition of orders of other market participants and/or orders coming from a type of market participant
  2. Statistical recognition of orders from other market participants or from a particular type of market participant
  3. Recognition of executions from other market participants, perhaps by subscribing to an Exchange Market Data or Last Sale feed
  4. Executions resulting from the HFT trading strategy itself, potentially as part of a wash sale transaction used to create the appearance of liquidity (e.g., Oct 15, 2014 Treasury Market).
  5. Direct recognition of temporary pricing dislocations between highly correlated instruments (stock, futures, options, ADRs, inter-listed, ETF) that lead to a statistical signal
  6. Recognition of changes in the quotes being disseminated by one or more exchanges
  7. Recognition of imbalances in the supply or demand of an exchange order book or the aggregate order books of all exchanges quoting in a security
  8. Recognition of news events that are anticipated to lead to changes in market prices
  9. Consumption of indicative information about an unexecuted order in the market, such as Indication of Interest, conditional order
  10. Direct recognition of an order as being from a particular type of market participant because of an exclusive order flow arrangement (Payment for Order Flow or PFOF)
  11. Recognition of a variance between market data feeds, such as the SIP and direct feeds of one or more exchanges
  12. Recognition of a type of participant represented on a quote or order in the market (e.g. attributed quote feed)
  13. Direct or derived recognition of a brokers order routing sequence where that broker/dealer is acting on behalf of investors
  14. Recognition and pre-empting of a trading algorithm that is using predictable patterns and/or identifiable market conditions for the basis of order transmission (e.g. % of Volume, Volume Weighted Average Price, Issuer Buyback)
  15. Recognition that an artificial imbalance in available liquidity for one or more securities at various price levels (by an HFT) will effect the future price of a security
  16. HFT is also known as PTF (Principal Trading Firm) - a brilliant term thought up by a lobbyist when revising a New York Fed/CFTC joint paper, to misdirect blame away from HFT for causing the Treasury Market flash crash.

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