The white paper On the Impact and Future of HFT examines the attitudes of various market participants toward high frequency trading, “imminent problems and risks of HFT,” and possible solutions to those issues. The authors conducted an in-depth study of academic research to inform their views on high frequency trading, finding that the research suggests “that HFT provides liquidity and on average improves market quality, with more discernible positive effects in large-cap stocks.” However, researchers concede that those effects may be different in distressed markets.
The paper places arguments surrounding high-frequency trading into two categories: those that relate to high-frequency trading as an “evolving complex socio-technical system,” and those that relate to “unfair advantages through asymmetric insider information and quote manipulation.” The authors include the enabling nature of technology, location as a competitive advantage, different calculation of risk and reward between high-frequency and low-frequency (e.g. institutional) traders, and the use of algorithmic trading strategies into the “evolving complex socio-technical system.” The authors assert that these factors are merely “natural adaptive alignments with presented opportunities in the presence of smart people,” and thus dismiss concerns related to this category. They argue that “[t]he forces of technology are not stoppable,” and that all investment firms, regardless of whether they are high or low-frequency, seek competitive advantages.
The authors group asymmetric information (based on access to data feeds and information) and practices such as a high rate of order placements and cancellations into the “unfair advantages” category. The authors reject the idea that the benefits provided by high-frequency traders in the form of liquidity can justify unfair practices and present two choices for high-frequency traders: act as a trader with “no systematic information advantage,” or act as a market-marker with special access and corresponding obligations.
For a solution, the paper focuses on the speed of information transmission and proposes a “zoning” system. For those traders that are able to receive pricing information ahead of securities information processors (“SIPs”), and thus ahead of the general market, the authors suggest that these traders should be required to register as market makers and be subject to corresponding obligations. The paper posits that such a system would maintain the benefits of high-frequency trading while requiring the least amount of structural and regulatory changes.
The full paper can be found here and a practitioner’s version can be found here.