High frequency trading is perhaps the most scrutinized and vilified form of trading of all time. With terms like predatory, unfair, and greedy being used to describe this trading strategy, it’s no wonder politicians, the general public and even traditional traders are very wary of this style. While regulators are scrambling to place controls on high frequency trading, the marketplace itself has reacted by starting to create its own countermeasures against this highly controversial trading method. These countermeasures include light pools and high tech spray order routing systems. Let’s take a closer look at each of these marketplace designed high frequency trading counter measures. First, the light pools.
Credit Suisse recently launched the world’s first light pool. An ECN that bans most forms of high frequency trading. It is the first ECN to launch in the United States for 5 years, and its target market is hedge funds, mutual funds, pensions and endowments. The light pool uses a system to classify how traders use it as a method of setting prices and keeping out unwanted predatory high frequency traders. It will automatically match, buy and sell orders in an effort to compete directly with the New York Stock Exchange and the Nasdaq. The goal is to create an environment where longer term traders can trade without fear of their orders being picked off by aggressive high frequency traders. Rob Maher, Sales Head for Credit Suisse’s AES Division, explained the Light Pool to TRADEnews.com this way, “The whole impetus behind this initiative is to provide some transparency around parts of the market that clients may consider as being unknown. Topics like high-frequency trading, dark pools and gaming are all relatively opaque in nature. There is a lot of interest – partially driven by fear – among institutions to have more transparency about the flow they are interacting with. This is an overall effort by Credit Suisse to remain focused on protecting client orders as best we can.”
The next market developed counter measure to high frequency trading is staggered spray order routers. The first, known as THOR, is being tested by the Royal Bank of Canada. According to RBC’s head of global electronic sales and trading, “As a trader, there’s a frustration around feeling like you’re being gamed, this led to the development of THOR.” The Thor system counteracts that gaming by staggering the orders it sends out to ensure they arrive at every market as close to simultaneously as possible. That gives the HFTs no chance to react.
Will the light pools and THOR type order routing systems spell the end for high frequency trading? My opinion is these new countermeasures will only result in the HFTs becoming more sophisticated in this never ending arms race. High frequency traders are a crafty, strong and resilient group. For years, they have navigated technological and political challenges to their business. Every new challenge to their business has lead to new innovations and business/trading strategies. I firmly believe that High frequency traders will continue to innovate and succeed.
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