If anything in the high-frequency trading debate was clarified at a Thomson Reuters event in early October on quantitative event-driven trading, it's that the industry still cannot agree on a definition of the trading style or on its value to the markets. Several panelists made an attempt to define high-frequency trading.
John Netto, president of proprietary trading firm M3 Capital, said high-frequency trading involves the "use of sophisticated trading technology to execute strategies at a velocity that's not achievable ... manually." Dhiru Patel, managing director, chief quantitative strategist, at Thomas Weisel Partners in New York, added that any trading that leverages short-duration positions to take advantage of market inefficiencies is high-frequency trading.
According to Brian Tahan, VP of Advanced Execution Services (AES) at Credit Suisse, high-frequency traders are characterized by a high sensitivity to latency and transaction costs. They also are heavy consumers of market data and news, he noted.
With more than 100 buy- and sell-side participants in attendance, Thomson Reuters polled the audience to gauge its positions on some of the more controversial aspects of high-frequency trading. Asked what effect the rise of high-frequency trading has had on sourcing liquidity and executing trades, 70 percent of respondents said HFT improves executions by providing additional liquidity, while 27 percent said it makes it harder to find the right liquidity to complete a trade. Meanwhile, asked to identify the No. 1 impact of the growth of high-frequency trading, 38 percent of attendees felt it increased market liquidity, 29 percent said it mainly resulted in big profits for successful firms and 28 percent said it resulted in increased volatility; only 6 percent felt it eroded investor confidence.
But given the dominance of high-frequency trading -- TABB Group estimates that it accounts for more than 60 percent of the U.S. equity trading volume -- the big question was whether it presents a threat to the stability of capital markets. While 37 percent of respondents said no, a nearly equal number (36 percent) acknowledged that it certainly is possible. When asked if high-frequency trading brings additional risks and execution problems to fund managers, however, 30 percent said it's a huge concern for the buy side and an additional 40 percent said it could become a problem. Another 16 percent said it can add risk or create execution challenges but that it isn't a big concern.
While the audience was somewhat divided on whether high-frequency trading helps or harms the markets, most of the panelists agreed that it has added liquidity to the markets. Thomas Weisel Partners' Patel further argued that high-frequency trading has reduced spreads and decreased transaction costs for long-only managers.
The panelists also appeared to agree that regulators need to proceed cautiously with any market reforms. "If they are done incorrectly, they will have unintended consequences," said Credit Suisse's Tahan.
Regulators Behind the Curve
More than 70 percent of attendees, however, said regulators are incapable of coping with the implications of high-frequency trading. According to Eric Karpman, CEO, Trading Strategy Group, regulators always will be behind the markets, but they nonetheless will act once there is a public outcry.
"Nobody is going to stop progress," Karpman said. "There will always be people who invest more in technology and are ahead of others. At the same time, there are some practices that are questionable that can threaten the whole system."
While acknowledging that there will always be people who seek to take advantage of loopholes, Thomas Weisel's Patel cautioned that regulations should not simply punish the fast players: "You can't penalize the guy because he outsmarts everyone else."