Exchanges: No Special Treatment for HFTs


Exchanges provide high-performance, high-speed trading capacity, and they don’t apologize for it.

“As an exchange, Bats has to run a dependable and efficient market so traders feel comfortable using our platform every day,” said Chris Isaacson, chief operating officer of Bats Global Markets, the fourth-largest U.S. stock-exchange operator. “Offering subpar technology isn’t an option.”

Chris Isaacson, Bats Global Markets

Chris Isaacson, Bats Global Markets

Some critics say exchange technology over-emphasizes speed, and exchanges enable high-frequency trading via uber-direct connectivity and the lowest-latency offerings that are suitable only for the speediest subset of market participants. In the view of these critics, this is an issue because high-frequency traders are wont to step ahead of the buying or selling interests of others, and thus increase trading friction for everyone else.

Exchanges respond that high-speed trading is available to all comers, and high-frequency traders don’t have dibs on the left lane. “We ensure fairness by treating all customers fairly — and equally,” Isaacson told Markets Media. “Traders with short-term strategies are important to any market as their willingness to provide liquidity, and assume risk in the process, enables retail and institutional investors to trade when they want to trade.”

The proliferation of order types offered by exchanges is an area of contention. To be sure, order types have moved well beyond straight buy-at-market to an array of esoteric versions, some of which are tailored for the fastest, shortest-term market participants. But exchanges also develop order types for other market constituencies.

“We take a variety of feedback,” said Bryan Harkins, chief operating officer of Direct Edge, the third-largest. U.S. stock-exchange operator. “We have built order types based on feedback from retail investors, who have unique needs, particularly around the open and the close. We have built order types based on feedback from agency algorithms that are managing buy-side order flow. We have also taken feedback from prop traders, including high-frequency traders. It all creates a vibrant mix.”

Different market participants may see different trading results on the same exchange, but any difference is a function of the trader rather than the trading venue, according to Travis Felker, vice president of research and development at trading-technology provider Embium

“Exchanges are neither hospitable nor inhospitable to their members,” Felker said. “All participants are ultimately treated equally. Orders generated from high-frequency boxes are not matched any earlier than orders generated from a desk trader or retail trader — they are matched as they are received. Therefore any inequality is external.”

High-frequency trading makes up 15% to 20% of volume on TMX Group’s Toronto Stock Exchange. The debate surrounding HFT “is a part of a much broader technology evolution and the issues around a high-performance marketplace in general,” said Kevan Cowan, head of equities at TMX. “Our goal is to deliver the most efficient public-capital marketplace — that’s a goal I think we share with most market operators. We look to be a leading technology provider and we don’t think progress will stand still.”

 “Neither Canada as a country nor TSX as a market operator can be a technological island,” Cowan told Markets Media. “A lot of this is about high-performance trading and it’s not just about HFTs, but it’s all different market constituents. It’s also a part of a broader competition for global capital. So, if Canada is going to continue to attract a fair share of global capital, we’ve got to continue to invest in technology.”

HFT Tailwind

In a sense, the rise of high-frequency trading over the past half-decade was a godsend for exchanges.

The global financial crisis of 2008-2009 cratered markets and scared off some traditional institutional and retail investors. With fewer market participants taking positions based on fundamental views that a security will appreciate or depreciate over time, exchanges were able to offset that lost volume with HFT activity.

But high-frequency trading has declined recently, tracking market volatility lower, to an estimated half of U.S. equity-trading volume from two-thirds a couple years ago. “As a percent of the market it has declined over the last four quarters,” Nasdaq OMX Chief Executive Robert Greifeld said on a July 24 conference call to discuss second-quarter earnings. “We don’t see anything to change that trend line unless we see changes in the VIX,” or CBOE Volatility Index, he said.

High-frequency trading activity is welcome business for an exchange, but given incentives such as rebates and volume discounts, they’re not the most profitable customers on a per-trade basis. So for the exchange sector, the ideal scenario would be a resurgence in trading on the part of traditional institutional and retail investors. Said Greifeld, “with a reduction in high-frequency, our (revenue) capture rate does in fact go higher,” Greifeld said.

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