It has been a fraught 12 months for the reputation of HFT, following the publication of Michael Lewis book “Flash Boys: A Wall Street Revolt” in March, 2014. Headlines shouted and pundits expounded about the dangers of HFT to the markets, to investors and to brokers, while regulators cracked down on infringements. Meanwhile, the HFT machine chugged along; chastised but resolute.
[One year later, Michael Lewis looks back at “Flash Boys.”]
Now it seems Lewis wasnt taking aim at HFT in particular, rather he was having a dig at banks and exchanges. In the April issue of Vanity Fair, Lewis said that he was surprised at the anti-HFT rhetoric that his book launched. …I thought I had made clear-the problem wasnt just high-frequency trading. The problem was the entire system…
I believed at the time that the anti-HFT vitriol was overplayed and I predicted that Lewis book would be debunked over the course of this year. This came true recently when the Bank of England released a report saying that high-frequency trading is not the evil practice that some believed. In fact, HFT could even be good for the marketplace.
The Bank of Englands report, “Working Paper No. 523: Interactions among high-frequency traders,”actually says that HFT makes prices more efficient and does not contribute to price anomalies.
I have been saying this for many years. HFT is actually just normal-but-very-quick-trading, which profits from very short-term pricing anomalies between two or more products or liquidity sources.
As with any form of trading, electronic or voice, there are always opportunities for fraud or error. This is where people start to worry, because any glitch or intentional manipulation happening in ultra-high-speed can decimate a market in microseconds. Witness the Flash Crash of May, 2010.
I have long suggested that what is needed is a mandate for high-frequency surveillance, preferably in as near real-time as possible. That way humans can respond to manipulative behaviors or errors as they are happening, rather than in minutes or hours or days — or never. Proactive use of real-time monitoring systems can alert regulators to problems before they become a crisis.
From lighting up the dark pools, where a lot of the trading is being done, to identifying patterns and anomalies in transaction data and dealer behavior, market surveillance can be the real-time watchdog. That way, HFT can remain a force for good, rather than a worrisome trading practice.
Then, maybe, if other books like “Flash Boys” are released readers will look beneath the HFT surface to discover the real reasons for concern.
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Dr. John Bates is chief marketing officer/business leader for big data analytics, cloud and industry solutions at Software AG. His other Traders commentaries can be fond here.
