[rondon]

I guess you don't quite understand how HFT works?

The simplest example is like this:

1. Bob sees that 10,000 share of MSFT are for sell on exchange X at $50.00 and also 30,000 share are for sell on exchange Y at $50.00 and 60,000 shares are for sell on exchange Z at $50.00 2. Bob attempts to buy 100,000 shares of MSFT at $50.00. 3. The HF trader sees the 60,000 order get filled at 50.00 and reasonably assumes that someone is trying to buy more than 60,000 shares right now. 4. He buys the remaining 40,000 shares at $50.00 before Bob's trade is executed. 5. The HF trader immediately lists the 40,000 shares at 50.01

Do you understand how the HF trader is injecting himself into the transaction?

[tptacek]

It looks like you just gave an example of a trader buying all the liquidity of MSFT on every market with a single market order.

[rondon]

Good point. You should ignore the previous comment based on a technicality. Since I didn't specify that the 100,000 share purchase was not actually 3 different orders

[tptacek]

Aside from the strange example you provided, what's funny is that you focused on a 1 cent price movement. The average bid-ask spread before high-volume electronic trading drove it down was 12 cents --- that was money in the pockets of middlemen. Before electronic trading, the spread could have been measured in dollars.

[rondon]

That is crazy logic. Because international telephone calls used to cost over 12 cents a minute I should let my ISP charge me 1 cent a minute whenever I use Skype internationally?

[harryh]

You should realize that market makers are actually providing a service that they get paid for and be happy that due to automation & competition the price for that service has dropped by an enormous amount.

[rondon]

I don't want that service, I want to buy something without someone else inserting themselves as a middleman.

[harryh]

I guess you don't quite understand how HFT works? The HFTer is the one offering to sell the shares for $50.00 on exchanges X, Y & Z. He's also offering to buy for $49.99. His goal is to sit there all day long trading with dumb money making 1 cent per share he transacts.

The HFTer has a problem though. If a big & smart trader comes along with proprietary knowledge that MSFT should really be trading for $50.10 he could take a big loss. If that HFTer buys everything up for $50.00 and then the price moves to far too fast that's bad.

So the HFTer works as hard as he can to detect when this might be happening so that he can update the prices he's offering. A really big signal this might be happening is when someone eats up his whole order book on one exchange all at once. So when that happens he trys to react as fast as possible to updates pricing on the other exchanges.

He's not injecting himself into transactions, he's trying to get out of the way as fast as possible.

[kasey_junk]

TGit least is closer to what is actually happening and is much less flawed.

I still take issue with your idea that the HFT is injecting itself into some preordained transaction. Information that there is a lot of demand for something should raise the price for that thing.

Large institutional buyers already have huge information/infrastructure advantages. Why should they also be given assn exemption from market dynamics that no one else received?

[tptacek]

Let me see if I follow:

What you're saying here is that an institutional investor wants to buy MSFT at a price that does not reflect their new demand for 100,000 shares. That order, absent some external force that will put downward pressure on the shares (which, if so, why buy now?) will naturally raise the price of MSFT for everyone in the market.

The investor, in other words, wants something for nothing: they want to trade at a price that doesn't reflect their demand, and for some other market participant to take the hit for selling below the true demand.

[rondon]

Someone pulls into a gas station that says gas is 3.99 a gallon and expects to pay 3.99 a gallon to fill up his car.

Should the price increase to 4.00 as soon as he stops in front of the pump to 'reflect the new demand'?

[tptacek]

I don't understand what you're trying to say here. Tradable instruments aren't gasoline. They don't have fixed prices. There is no universe where trading exchanges have ever worked that way.

[kasey_junk]

Someone pulls into a gas station and buys all the gas they have at 3.99 a gallon. Should they be able to cross the street to the other gas station and expect to do the same thing, or can the across the street gas station raise their prices to 4.00?

[rondon]

Yes, in your example the third party has witnessed a change in demand and is now changing his prices.

In my example the Gas Station is doing a bait-and-switch where the price was 3.99 until you pull out your credit card. HF Traders are not doing a bait-and-switch since they are separate entities than the original seller but they are making money off the same principal as a bait and switch.

[kasey_junk]

No repeatedly your analogies incorrectly assume things that are not true about the way HFT works.

In the vast majority of instances the HFT are not buying something and reselling it at an inflated price before another interested party has access to it. They are changing the price on things they themselves had already set the price for.

A closer analogy than what either of our gas stations makes is I own ten gas stations in a line down the high way. At the first one a tanker truck pulls up and takes all the gas I have at that gas station, then at another and another and another so on down the line such that I no longer have any gas.

When I go to replenish my stocks I find out that some big company needs tons of gas and has driven the price well above the 3.99 I was selling for. This means I just took an extreme beating in the selling gas industry. I don't mind, that is a cost of doing business.

Then the next week they come and do the same thing and on and on for years. Eventually, I tell the manager of the first gas station to call all the other managers the minute a tanker truck shows up so we can adjust our prices and not get wiped out.

The big gas company now has to pay a much more appropriate rate for the gas. This drives them crazy so they go on 60 minutes and tell everyone on the planet that the game is rigged because I have this super sophisticated technology that lets me "front run" them.

You hear this and start thinking to yourself, man I can't trust that they are going to charge me more money for this gas as soon as I pull into the station. You start buying less gas and calling your senator. The big gas company then goes on CNBC and says, "See I told you those little gas companies were no good. Now they are eroding the faith of gas buyers in the fairness of the market place."

When in reality all that is happening is that the big gas company can no longer take advantage of me to get cheap gas.