When Algos break down
The Trader has written extensively on the Algo/HFT trading over the past year. Regulators do not understand, and the Algos are running the markets. We are not against technology, as we use it ourselves, but we are concerned on the long term implications of the markets if a respectable player like Knight can practically go under over one rogue algo going crazy. More by Felix Salmon of Reuters.
Barry Ritholtz has an excerpt from Frank Partnoy’s new book, Wait, all about an HFT shop in California called UNX:
By the end of 2007, UNX was at the top of the list. The Plexus Group rankings of the leading trading firms hadn’t even mentioned UNX a year earlier. Now UNX was at the top, in nearly every relevant category…
Harrison understood that geography was causing delay: even at the speed of light, it was taking UNX’s orders a relatively long time to move across the country.
He studied UNX’s transaction speeds and noticed that it took about sixty-five milliseconds from when trades entered UNX’s computers until they were completed in New York. About half of that time was coast-to-coast travel. Closer meant faster. And faster meant better. So Harrison packed up UNX’s computers, shipped them to New York, and then turned them back on.
This is where the story gets, as Harrison put it, weird. He explains: “When we got everything set up in New York, the trades were faster, just as we expected. We saved thirty-five milliseconds by moving everything east. All of that went exactly as we planned.”
Red Knights, Killer Algos and Fat Tails
With Knight in total implosion mode, we would like to review a few good videos on antifragility, fat tails, the predictability of the unpredictable, flash crash and some up to date charts on the falling Red Knight.
Computers and algos are great, but you just need to have that big red stop button active. If one Algo can cause such harm, imagine having a few of those algos, operated by quant guys in their early twenties.
What could possibly go wrong?
Videos below.
HFT Increases Volatility
HFT is a topic widely covered on The Trader. Despite the fact the HFT has taken over the majority of all trading, there is little academic research on what the HFT actually “do” to the market. Pundits (that don’t ever trade) have claimed HFT increase liquidity, volumes and decrease volatility. We are of the quite opposite opinion. HFT are great revenue makers for the HFT companies, but they do not provide liquidity especially when the markets needs it, and HFT does definitely NOT decrease volatility according to us. Here is a new paper suggesting HFT actually increase volatility. Something for the exchanges to review, but on the other hand, they make a little too much from the HFT community to be objective. Read and judge yourselves. By EDHEC Business School;
We find that greater AT intensity is associated with more liquidity, whether measured at the transaction level or at the daily level, faster price discovery, and greater short-term volatility. These results are remarkably consistent across different markets. To link AT causally to market quality, we use co-location events as instruments. Co-location events allow fast traders to physically locate their computer hardware next to the exchanges’ computer to minimize data turnaround times. These events are essential in facilitating AT and represent exogenous shocks to AT that do not directly affect market quality. We use these events as instruments for AT and find evidence that supports causality from AT to market quality – more AT improves liquidity and efficiency, but increases volatility.
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