From Traditional Floor Trading to Electronic High Frequency Trading (HFT) Market Implications and Regulatory Aspects
←
→
Page content transcription
If your browser does not render page correctly, please read the page content below
From Traditional Floor Trading to Electronic High Frequency
Trading (HFT) ‐ Market Implications and Regulatory Aspects
Prof. Dr. Hans‐Peter Burghof
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen
HFT has fundamentally changed financial markets…
Traditional floor trading Modern high frequency trading (HFT)
Amazon: More than 100,000 quotes per second in Amazon on June 7, 2013
BATS IPO ‐ from $15 to 0 in 1.5 seconds: Stock begins trading at $15.25. Within 900 milliseconds from opening
the stock price had fallen to $0.29. Within 1.5 seconds the price dropped to $0.0002. 567 trades were
executed before trading halt.
May 6 2010 , Flash Crash: DJIA plunges by around 1,000 points (9%) and recovers the losses within minutes
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen 2
… in the sense that
Today’s market environment
Human are removed from the direct decision‐making process of security transactions and substituted by
computer software
Speed has become the single most important factor in security trading
Fundamentals do not play any role for most high frequency traders
Holding periods are often limited to milliseconds (10−3) or even nanoseconds (10−9)
The competitive advantage has shifted from those…
with superior capabilities in determining the “true” value of an asset
to those…
who can trade faster than others!
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen 3
What is HFT?
HFT is a subset of algorithmic trading Definition of algorithmic trading in Mifid II:
Trading in financial instruments where a computer algorithm
Algorithmic High Frequency automatically determines individual parameters of orders such
Trading Trading as whether to initiate the order, the timing, price or quantity of
the order or how to manage the order after its submission, with
limited or no human intervention
Market making Statistical arbitrage
Typical features of HFT:
Spread Capturing Market Neutral
Proprietary trading Rebate Driven Arbitrage
Strategies Cross Arbitrage
Large number of orders with small size Not only (Asset, Market, ETF)
Rapid cancellation of orders one type of
No overnight positions HFT but a variety Strategies
of different
Very short holding periods Liquidity detection Others
strategies Pinging Momentum
Use of colocation and proximity Sniping Latency Arbitrage
services Quote Matching Manipulation (e.g.
Quote Stuffing,
Focus on highly liquid securities Spoofing)
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen 4
HFT activity
HFT activity at regulated markets and MTFs in Europe in 5/2013 Falling market shares of HFT (39% in
40%
Europe in 2012 according to TABB
35%
30% Group)
25%
Value traded
20%
Generally higher market shares of
15%
HFT in the U.S. (51% in in 2012
10%
5% according to TABB Group)
0%
NYSE Euronext Amsterdam
All Venues
NYSE Euronext Paris
Borsa Italiana
London Stock Exchange
Irish Stock Exchange
CHI‐X
Turquoise
NYSE Euronext Lisbon
NYSE Euronext Brussels
BATS
Higher market shares at less
regulated trading venues
HFT activity has plateaued on
established markets, continues to
HFT Activity expand globally (e.g. Asia)
Source: European Securities and Markets Authority (2014): Report on Trends, Risks and Vulnerabilities
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen 5
Market implications – Market quality
Price
Authors Sample period Market Method Liquidity Volatility
discovery
NASDAQ OMX
Brogaard et al. (2014) 08 – 10/ 2012 Empirical
Stockholm
Martinez, Rosu (2013) ‐ ‐ Theoretical
Hasbrouck, Saar (2013) 10/ 2007 & 06/ 2008 NASDAQ Empirical
Brogaard et al. (2012) End of year 2009 NASDAQ, BATS Empirical ‐
Bias et al. (2011) ‐ ‐ Theoretical ‐ ‐
06/ 2010
Kirilenko et al. (2011) E mini S&P 500 Empirical
(Flash Crash)
Civitanic, Krilenko (2010) ‐ ‐ Theoretical
Brogaard (2010) 2008,2009 & 02/ 2010 NASDAQ Empirical
Overall, the literature tends to find that HFT improves market quality!
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen 6
Market implications – Market quality
Influence of HFT on market quality
Liquidity Volatility Price discovery
• Based on traditional liquidity • HFT traders tend to reduce • HFT traders act as market
measures HFT tends to volatility due to smaller price makers and hence can
increase liquidity on the differences depending on positively affect price discovery
market market conditions. • But: Depending on market
• But: The duration of liquidity • But: This effect seems to affect situation and strategy HFT
provision is often short predominantly short term traders can also strongly
volatility deviate from that role
The proponents of HFT argue that HFT plays an important role in the price discovery
process, leading to an increase in price efficiency => improved market quality
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen 7
Market implications – Negative externalities
The downside of HFT
The “need for speed” harms “real” investments, market stability & fairness
Speed has become the single most important factor in security trading
Fundamentals do not play any role for most high frequency traders
Operational risk: Systemic risk
• Quote stuffing • Flash crashes
• Sunshine liquidity
• Sunshine market‐
making
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen 8
Market implications – Operational risk
The strong growth of HFT activity during the past decade lead to a sharp increase in the amount of quotes
Why is this a problem?
The placement of bids and asks via HFT can be compared with sending spam Emails
In relation to sending and receiving it is practically free of charge for the sender but not for the recipient
Forwarding and processing continuously increasing amounts of data generates increasingly problems and
costs for trading venues and market participants and may lead to a breakdown of the trading system of
individual trading venues.
HFT abuse the restricted capacity of trading venues and other market participants to handle continuously
increasing data volumes:
Speed wars aka quote stuffing aka fake liquidity
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen 9
Market implications – Operational risk
Quote stuffing / fake liquidity
War between HFT algorithms
HFT place a large amount of quotes within a single
second (e.g. 15.000 and more) and cancels it
immediately
Other market participants and trading venues
have to process these quotes which takes time
The HFT originator knows that his quotes are “fake”
and neglects their processing. Yet, he analyses the
reaction of the other market participants and waits for arbitrage opportunities when prices differ
Quote stuffing is a main driver for system outages at trading venues
Pure market manipulation!
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen 10Market implications – Operational risk
Quote stuffing in
Michal Kors Inc. (KORS)
on Feb. 14, 2012
KORS is stuffed with
quotes from multiple
exchanges exceeding
18.000 quotes/sec
The picture shows
about 40 seconds
divided into 50
millisecond intervals
Before KORS hand only
a few hundred trades in
the same time span
Source: Nanex
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen 11Market implications – Operational risk
Sunshine liquidity / Sunshine market‐making
Burghof/Spankowski/Wagener (2014) find
that trading activity on Multilateral
Trading Facilities (MTFs) – where HFT are
preferably active – reduces significantly in
times of increased market distress.
Also when market‐making becomes
difficult, market participants on MTFs –
presumably HFT – seem to reduce their
liquidity provision.
Hence, HFT is no big help for a sustainable
efficiency in financial markets
Source: Burghof/Spankowski/Wagener (2014): Back to the roots – Market fragmentation and order routing
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen 12Market implications – Systemic risk
Flash crash on May 6, 2010
in the DOW
Trigger: Negative news of
Europe/Greek ‐> new
riots
At 14:42:44:075 was an
immediate sale of ~ $125
million worth of June
2010 eMini futures and a
sale of nearly $100
million ETFs
HFT did not trigger the flash crash, but their responses to the selling pressure on that day increased volatility
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen 13Market implications – Summary
No real No fair market
Critical in very volatile
investments conditions for non‐HFT
Quote stuffing can reduce the
market situations
quality of quotes and affect
market quality negatively
Positive influence on
No clear cut result can
market quality Improves price discovery
be drawn
Regulation?
HFT HFT strategies
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen 14Regulatory aspects
In general, European (MiFID) and German aspects on German details:
HFT regulation seem to be compatible, both foresee: Stock Exchange Supervisory Authorities and BaFin
Trading venue capacities have to be sufficient for HFT receive increased enforcement powers (information
Excessive usage fees to be charged on all trading requests, prohibition of Algo trading strategies)
venues High Frequency Traders are now subject to licensing
Order flagging to control HFT strategies (‐> Trader ID) obligation under German Banking Act
Order‐to‐Trade ratios published by all trading venues Regulation and supervision of HFT as financial
Installment of circuit breakers at all trading venues services institutions by BaFin (‐> Prop traders now
Appropriate minimum tick sizes on all trading venues also have to register)
Regulation on the basis of taxes has been seen critical by several scholarly papers. Deterioration of market quality in
France and Italy where this regulatory practice has been used (e.g., Meyer et al., 2013; Gomber et al., 2014)
Universität Hohenheim Institut für Financial Management Lehrstuhl für Bankwirtschaft & Finanzdienstleistungen 15You can also read
