Video: The Impact of Algorithmic Trading

Barry Ritholtz over at the big picture recently posted a link to a great video from a subset of the TED Talks called TEDx.  The TEDx events are individually organized, and focused on bringing “TED-like” experiences without the famous name (or the $6000 annual membership fee).  Yan Ohayan, an insider to the High-Frequency-Trading (HFT) game, describes the industry environment and dutifully outlines a practice called “quote-stuffing” that is prevalent in HFT algorithms – though relatively unknown to the public at large.  Check out video here:

Some highlights from the video:

• Approximately 73% of trading volume today is done through computer algorithms, or 3 out of every 4 trades.
• The average holding period of a trade today is 22 seconds.
• “Speed gives [computers] an advantage no human can compete with.”
• 8 minutes = 480,000,000 microseconds, computer can trade in 400 microseconds, divide, carry the one… that means in 8 minutes, a computer could place about 1.2 million trades.  And that is in a single stock.
• “The speed of light and fiber optics are slowing us down.”
• From the above point, the prevalence of co-location – getting as close to the exchanges as possible – has developed in an attempt to reduce data travel-time to as little as possible.
• “Quote-stuffing” is essentially flooding the market with data in an attempt to overload competing computers, and filtering out that data from your own computers (you know what data it is, because you are creating it).
• The Flash Crash is clearly evidence of the prevalence of HFT in the market.
• Watson is a great example of man vs. machine: man knows the right answer almost as often as the computer, but the computer can simply hit the button fast than the limits of human reflexes allow us to.

I think it's a great video on the importance and significance of the little computer critters running through all your favorite stocks.  Ever seen a 30-second price spike that returns to exactly the same price after the run-up?  Probably your friendly neighborhood HFT algo, just taking your precious pennystock for a drive around the block and making a bit of greenback along the way.  I wonder how proponents (well, creators) of those HFT trading algos really feel about their fleecing of the financial markets… I can concede the argument that Darwinism is the underpinning of capitalism, that the strong survive and the weak perish, and that competitive advantage is whatever gets you to the top.  The problems lies in the fact that treating the markets – and ultimately the companies and flesh-and-blood investors that comprise the markets – in this way removes the essence and purpose from the vehicle that got us this far: to price companies based upon their inherent value.  The capitalistic argument brings to mind the “Take-a-Penny” scene from the movie Office Space, and ultimately falls on its face when the whole system moves to HFT in an effort to stay competitive, bubbles occur on a daily basis, volatility goes through the roof, and the markets eventually fail because no one is willing (or able) to put money into a fraudulent game of follow-the-computer-code.

The New York Times has a short piece on quote-stuffing, defining it as a “Stock market technique whereby large trades are placed before being promptly cancelled.” (Also, note the link at the bottom of the article about “flash orders” and “black pools”, other interesting quandaries in high-speed finance…)

Interestingly, one might wonder why Mr. Ohayon would turn up in front of a giant crowd of people and state publically that he is engaging in HFT and quote-stuffing (which is, apparently, being “looked into” by the SEC, which could really mean anything but probably means nothing).   The blog BusinessInsider.com wondered the same thing, and wrote a post about it, to which Ohayon replied with a followup interview stating that he was against the practice of quote-stuffing, and that they should be regulated ASAP.  He also notes, though, that the markets “may be entering a point of no return…”  Not good news, especially coming from an insider.