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A detailed exposé on how the market is rigged from a data-centric approach

nanex.net

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Re: A detailed exposé on how the market is rigged from a data-centric approach

#101

Post by [deleted] »

rtpg wrote: post #43
throwaway283719 wrote: post #38

What is happening here is really quite simple, and doesn't deserve an entire blog post. There are two exchanges, A and B, and a market maker Jill is quoting (say) 10,000 shares on each of those two exchanges for $17. Big institutional trader Jack sees the 20,000 shares and decides that he wants to buy 15,000 of them, so he sends two orders for 7,500 shares each to A and B. Because of various effects (network latencie…

>2. The only reason that Jill has a speed advantage over Jack is because she has paid for it! She has paid to co-locate her server at the exchange, and she has paid to use high-speed connections between exchanges. Are we going to declare that paying for a competitive advantage is suddenly immoral? If we want an efficient market,we need perfect information. Information asymmetry creates inefficient markets. The moral…

[deleted]

Re: A detailed exposé on how the market is rigged from a data-centric approach

#102

Post by kasey_junk »

_delirium wrote: post #98
kasey_junk wrote: post #97

Earlier quoted context omitted.

How do you pick the timeframe? Seconds are still too fast for humans. Minutes would be too fast for people who are not professional traders, hours would be too fast for people who can't be near a computer all day. There is always a locality advantage in the market, this has been true as long as there have been markets, and it will be true forever. Why do we as market participants care? The other problem with your sce…

> The other problem with your scenario is that you make market making more risky. The problem with the current scenario is that it makes market making more expensive, as it requires a lot of technological investment into the microsecond arms race. This means the market makers must pull in more revenue from their trading to cover these expenses, before they even get to thinking about making a profit. This cascades to…

Except thats demonstrably not what has happened. Market making has gotten cheaper, not more expensive. Spreads have tightened, not gotten wider. Fees have gone down not up. Literally every cost to trading has been reduced.

The single biggest cost to any market maker is their market risk. Latency is exceedingly cheap in comparison. Any increase in latency raises market risk thereby raising their biggest cost.

Re: A detailed exposé on how the market is rigged from a data-centric approach

#103

Post by kasey_junk »

joezydeco wrote: post #32
DevX101 wrote: post #13

Earlier quoted context omitted.

If buyers were to time divide their order and time it so the request ended up at each exchange at the exact same millisecond, would this prevent others from reacting to the big trader?

If you read "Flash Boys" by Michael Lewis, he describes the creation of the IEX, which attempts to do exactly this. RBC created a tool to try and synchronize order flow, which worked for a time. Part of the solution that IEX uses is to put large spools of fiber-optic line in between the servers to delay order flow long enough to negate the HFT systems.

Also if you read "Flash Boys" you will realize that the guys that started IEX previously worked for brokers whose central job is making sure orders get executed well and they were terrible at it. They literally did not understand basic market fundamentals that they were getting paid millions of dollars to understand. I'm not convinced I want these same guys routing my orders.

As anyone with a lick of understanding in technology has to ask, why the hell do they need big spools of fiber to negate HFT systems? Can't they implement low latency time stamping much cheaper? I suppose that a box full of computer chips won't impress big named "journalists" nearly as much as a spool of fiber though...

Re: A detailed exposé on how the market is rigged from a data-centric approach

#104

Post by kasey_junk »

downandout wrote: post #99
kasey_junk wrote: post #95

Earlier quoted context omitted.

But your analogy is backwards. HFT (of the market making variety) are putting water into the pool, not taking it out.

It's not backwards. Market making HFT's are like a casino's bankroll. The only purpose that their bankroll serves is to suck money out of the pool.

Well, let me say it's not backwards, it is just nonsensical. Market making HFTs don't have any built in mathematical edge like a roulette wheel. Further, they lower the cost of trading, they add money into the pool in the form of the risks they take and the infrastructure they create.

As I look around the markets, I don't see a lot of participants that are there to lose money. The ability to make a profit from market activities is central to a correctly working market.

Re: A detailed exposé on how the market is rigged from a data-centric approach

#105

Post by throwaway283719 »

kasey_junk wrote: post #102
_delirium wrote: post #98

Earlier quoted context omitted.

> The other problem with your scenario is that you make market making more risky. The problem with the current scenario is that it makes market making more expensive, as it requires a lot of technological investment into the microsecond arms race. This means the market makers must pull in more revenue from their trading to cover these expenses, before they even get to thinking about making a profit. This cascades to…

Except thats demonstrably not what has happened. Market making has gotten cheaper, not more expensive. Spreads have tightened, not gotten wider. Fees have gone down not up. Literally every cost to trading has been reduced. The single biggest cost to any market maker is their market risk. Latency is exceedingly cheap in comparison. Any increase in latency raises market risk thereby raising their biggest cost.

I basically agree with what you're saying, but I think there's another point to make - market making is simply not as profitable as it once was.

I've seen estimates that the entire high frequency trading industry made $1 billion profit in 2013, down from $5 billion in 2009. [0]

In contrast, JPMorgan made $6 billion profit in the last quarter, and that was reported as "not particularly impressive"! [1]

[0] http://www.reuters.com/article/2014/04/06/us-dark-markets-an...

[1] http://dealbook.nytimes.com/2014/07/15/jpmorgan-earnings-dec...

Re: A detailed exposé on how the market is rigged from a data-centric approach

#106

Post by harryh »

cbr wrote: post #39

Say there are three exchanges, A, B, C, each with 1k shares of Ford on offer at $20. They are all random numbers of ms away from me, and for simplicity say A is closest and C is farthest. I send out my order for 3k shares at $20, and it hits A then B then C. People who are watching A see my request, and try to make adversarial changes on B and C. They have a low chance of success on B because it's almost as close to…

That's not what IEX does. IEX is, to fit within your example merely exchange A. It can't control whether you delay your order to B or C or not.

What A does do is delay the output. When it receives an order it doesn't immediately broadcast that information back out, it waits some small (but relevant) period of time.

Re: A detailed exposé on how the market is rigged from a data-centric approach

#107

Post by harryh »

bakhy wrote: post #90

An interesting contradiction appears here. On one hand, this increases market efficiency, or so we're told. On the other, we are also told that if a big pension fund wants to avoid being played like this, they should spend money on their own HFT equipment. It seems there is only one clear winner here - the IT people making money off developing HFT systems.

Here's the chief executive of Vanguard (one of the largest investment management companies in the world) discussing how HFT has dramatically lowered their trading costs:

http://www.ft.com/intl/cms/s/0/ff8c6486-cb37-11e3-ba95-00144...

Spreads used to be a quarter, and now they're a penny! That's a huge deal!

Re: A detailed exposé on how the market is rigged from a data-centric approach

#108

Post by harryh »

mschuster91 wrote: post #2

Doesn't surprise me the least bit. Where there is something available to exploit (in this case, access to direct, fast feeds), it will be exploited. Would it be possible, legally and technically, to put a special additional fee/tax onto high-frequency trading while leaving normal high-volume traders alone?

Not really no.

High Frequency Traders are selling a service (liquidity). A tax on them is mostly just a tax on their customers.

Re: A detailed exposé on how the market is rigged from a data-centric approach

#109

Post by harryh »

_delirium wrote: post #98
kasey_junk wrote: post #97

Earlier quoted context omitted.

How do you pick the timeframe? Seconds are still too fast for humans. Minutes would be too fast for people who are not professional traders, hours would be too fast for people who can't be near a computer all day. There is always a locality advantage in the market, this has been true as long as there have been markets, and it will be true forever. Why do we as market participants care? The other problem with your sce…

> The other problem with your scenario is that you make market making more risky. The problem with the current scenario is that it makes market making more expensive, as it requires a lot of technological investment into the microsecond arms race. This means the market makers must pull in more revenue from their trading to cover these expenses, before they even get to thinking about making a profit. This cascades to…

Moving to a 1 second tic wouldn't save money on infrastructure because HFTers would still have an incentive to wait for the last possible moment before the tic to update their orders to make sure that they had access to all possible information when making their decisions.

Re: A detailed exposé on how the market is rigged from a data-centric approach

#110

Post by harryh »

rahimnathwani wrote: post #100
throwaway283719 wrote: post #70

Earlier quoted context omitted.

Here is our point of disagreement, then - I think that this is exactly how markets are supposed to work (in the presence of multiple exchanges). The job of a market maker is to supply liquidity at a price/risk tradeoff that is reasonable to them, subject to the information available to them. If there are multiple exchanges, and someone trades with them on one exchange, then the set of information available to them ha…

OK. So it's because there are multiple markets. We want multiple markets because competition, but multiple markets mean latency which means HFT using info from one exchange as a signal in another exchange. If I could wave a magic wand then we would have one exchange which was run as a public service, by some beneficent person with no profit motive. I don't have a magic wand :( I agree that the current situation is th…

If you could wave that magic wand big players with proprietary information (like hedge funds) would win a bit and everyone else (which includes you by the way) would lose because of slower price discovery.
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