pace” led to increased costs for market
participants, who had to then expend
resources connecting and upgrading to
these new venues. Meanwhile trading
functionality was stripped away as
exchanges sought to reduce latency
as far as possible, while the long-only
investor often found that as soon as they
attempted to act on a price, the market
moved against them. Essentially, HFTs
were getting in front of their orders, using
sophisticated co-location technologies
and HFT strategies, to make a profit at the
expense of other participants.
“Best price should be the best bid or
offer. Instead of having someone come
in at a tiny fraction of a penny higher
or lower, in such a way that they get in
first,” said Connors. “That’s not adding
value. It is an exploitation of the market
structure.”
To make matters worse, the trading
venues themselves suffered from
instability and crashes, caused in part
by the move to new technologies that
did not receive proper testing. Crashes
affected the London Stock Exchage, Bats
Europe and many other trading venues
over the last several years, going back
at least as far as the Flash Crash of May
2010, when $1 trillion was briefly wiped
off the value of the US stock market in an
12
incident that was blamed partly on rogue
algorithms feeding off each other in an
automated spiral to the bottom.
According to Connors, there are some
positive moves. In the US, the SEC is
currently trying out the tick size pilot,
which is a data-driven test to determine
whether or not widening the tick size
from $0.01 to $0.05 for securities of
smaller capitalization companies will
impact trading, liquidity, and market
quality of those securities.
“The tick size pilot is a good step,” he
said. “I am trading a stock that trades
at a volume of 150,000 shares today.
Yet it’s priced at the same increment as
Microsoft. Stocks should be priced in
fixed increments based on volume. Of
course, it’s interesting that the HFTs are
the ones who are against it.”
In an attempt to reduce some of the
perceived negative effects of HFT on
long-term investors, Borsa Italiana has
already started charging firms that cancel
a high proportion of their orders; other
markets in Europe (notably Germany)
have unilaterally introduced laws in
an attempt to clamp down on such
practices. “We should start doing that in
the United States,” said Connors.
“HFT is front running. They don’t add
liquidity to the market. If I steal one
www.buysideintel.com
dollar from your bank account a
month, that’s twelve dollars a year. You
probably won’t notice or care. But if you
do that to a million people, have you
committed a crime? That’s what HFT
does.”
In response to growing dissatisfaction on
the buy side, a number of trading venues
have attempted to come up with new
products and services aimed at long-only
investors. Among these, the US-based
exchange IEX has been one of the most
well-publicised, having featured in the
best-selling book Flash Boys by Michael
Lewis. IEX uses a system of “speed
bumps”, random delays in the latency of
execution, to prevent HFTs from gaining
an advantage on its platform. Connors is
a supporter of IEX, but believes more will
have to change before the buy side can
consider the issue solved to satisfaction.
“Venues like IEX are a start, but they
have a long way to go yet,” he said. “The
regulators are trying to chase a Ferrari
with a Ford Mondeo. It’s likely there
will be another Flash Crash of much
larger porportions. US exchanges are
in denial that there is any problem with
the market structure, because they’re a
'profit organization'. They won’t change
until there’s another crash and they are
forced to do so.”
October 2016