High-Frequency Trading Is a Tough Game
Traders Magazine Online News, November 24, 2009
Interest in high-frequency trading is at an all-time high, but profit-taking from high-frequency trading strategies focused on low latency is getting tougher.
"The window of opportunity to get into high-frequency trading is almost closed," said Mark Casey, president of CFN Services, a network provider. He defined high-frequency trading as strategies whose underpinning is low-latency order placement and execution.
"If you're competing primarily on latency, it's very, very, very, very difficult," added Nigel Faulkner, chief technology officer for the equities technology group at Goldman Sachs.
The cost of the technology and infrastucture needed to support high-frequency trading is "tens of millions of dollars" per year, according to Kevin McPartland, a senior analyst at financial services research firm TABB Group. He moderated a panel sponsored by TABB Group and Switch and Data, a data center operator, last Thursday. This article is based on the panel discussion.
Low latency is necessary, McPartland said, to process market data faster than competitors. And high-frequency trading, which encompasses a range of strategies, depends on that data. "It's like you're seeing the Wall Street Journal five microseconds into the future," he said.
High-frequency trading firms must be concerned about latency, but that level of concern should depend on "how much profit they intend to make from every millisecond or microsecond," Goldman's Faulkner said. He noted that firms must understand the "value of a micro or milli" for the particular strategy they're running.
"The infrastucture isn't the barrier" for firms interested in high-frequency trading, CFN's Casey told the audience. The barrier is competition. In his view, competing with the most latency-focused firms is a tough, elite game because, at that level, microseconds count. A microsecond is one-millionth of a second, while a millisecond is one-thousandth of a second.
According to a recent TABB report on financial services data centers, the financial services industry spends $1.8 billion for co-location and private facilities to support fast direct access to market centers. Broker-dealers account for half of that sum, or $900 million. Exchanges represent 23 percent, proprietary trading firms 13 percent, asset managers 10 percent and hedge funds 4 percent. That report was published in March, but the figures remain accurate, McPartland said, based on TABB's ongoing research on data centers and trading, including for an upcoming report on sellside technology focused on U.S. equity infrastructure.
McPartland noted that bulge-bracket firms will often have four or five primary data centers to support their own equities trading and the trading of their clients, and 10 or more co-lo sites in the U.S. All brokers, he said, use co-lo at some level, with many operating in at least two or three co-lo sites.
McPartland added that housing servers within an exchange's data site is costlier than placing the servers near the facility, such as across the street. The chief features behind a firm's choice of a data center are cost (which is important to 57 percent of firms), exchange proximity (48 percent), space in the data center to expand (33 percent) and power reliability (29 percent), according to TABB. Additional concerns are service, security, control and network neutrality.
CFN's Casey said that "proximity trading" has exploded over the last couple of years. Proximity trading refers to strategies that depend on low latency by installing computer servers near a market center's matching engine.
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