We thought it may be constructive to post, from time to time, some background information on high frequency trading. In an effort to help educate the regular readers of HFT Shenanigans we’ll look to provide some foundational knowledge with these posts.
High frequency trading has developed quite rapidly, starting in 2007 with the S.E.C.’s passing of Regulation NMS. The rule opened the door for ultra-fast computers to become dominant in the stock market, so much so that HFT now accounts for anywhere between 50% and 70% of all the volume on the 13 U.S. exchanges. Yes, there are 13 exchanges, which is probably a topic for another mid-week primer.
With this gigantic growth in rapid trading came the S.E.C.’s need to somehow keep tabs on it. Believe it or not, up until the beginning of 2013, the S.E.C. had no way to track HFT as their technology was outdated and far too slow. In mid-2012, the government body charged with regulating markets, turned to one of the leading HFT firms for help in building its analytical tool named the Market Information Data Analytics System . That is correct, the S.E.C. asked a high frequency trading outfit to help them regulate high frequency trading. The following is from a New York Times story last fall detailing the building of MIDAS by Tradeworx.
Tradeworx, a 45-person firm based in New Jersey, will dispatch its experts to Washington this month to tutor regulators on a sophisticated computer program that will give the S.E.C. its first real-time window into the stock market — something firms like Tradeworx have had for years. The S.E.C. program, designed by Tradeworx, is set to go into operation at the end of this year.
In case your initial reaction to the S.E.C.’s new ability to properly regulate HFT may be a bit skeptical, you’re not alone, a former HFT trader feels the same.
David Lauer, a former employee of other high-speed trading firms, wrote in recent testimony to a Senate subcommittee that the Tradeworx program was “reminiscent of the fox guarding the hen house.”
“You don’t rely on the subject of your study to build the device you are going to be studying them with,” Mr. Lauer said in an interview after the hearing.
Here’s a quote from Manoj Narang, CEO of Tradeworx on why the S.E.C. was correct in using his firm. Simultaneously he shows us the industry’s strength and arrogance while highlighting the government’s inability to fight back.
“Where else are they going to be able to get these capabilities?” Mr. Narang said. “They are not available from anywhere other than high-speed trading firms. We’re the only ones who possess it.”
MIDAS is supposed to be a tool used to vacuum up all trade data in real-time allowing the S.E.C. to properly regulate the markets. However, as we see with each week, there are plenty of mishaps despite this new multi-million dollar program. Since it has come on-line, instances of HFT manipulation have not decreased and not a single fine has been handed out to any HFT firm. As Eric Hunsader from Nanex points out, the performance of MIDAS has been anything but stellar.
“Until we get a regulator that can actually look at market data, stock price stability will continue to deteriorate, a casualty of manipulative high frequency trading.”