High Frequency Trading (HFT) Strategies

Introduction to High-Frequency Trading (HFT)

High Frequency Trading (or HFT) in general is part of the electronic trading. This type of trading uses complex algorithms to analyze and to evaluate multiple markets simultaneously. Based on the market conditions High Frequency Trading systems are executing tens of orders in a matter of seconds.

 

The High-Frequency Trading Domination in the US

High-Frequency trading systems open and close positions in a fraction of a second and form the million-second markets. These Fast-Markets are extremely liquid and can highly influence all real Equity Markets. It is estimated that 50% of the total US stock-trading volume is driven by computer-based high-frequency trading systems. Others believe that today the activity of HFT exceeds 65% of the total US stocks activity. High-Frequency Trading has become very popular nowadays. There are hundreds of new start-up companies worldwide focusing exclusively on exploiting opportunities deriving from this lucrative market. Only in the US, the High-Frequency Trading industry is estimated to worth about 300 billion USD. In overall, there are more than 20,000 firms in the US that are specialized in high-past computerized programs for trading stocks. The most important players in the HFT industry according to the Deutsche Bank are:

i) Multi-Service Firms: Citigroup and Goldman Sachs

ii) Hedge-Funds: Citadel and Renaissance Technologies

iii) Trading Firms: Getco, Optiver, and Tradebot

Why HFT makes Investors and Regulators Skeptical?

On May, 6th 2010 the Dow Jones Industrial plunged 600 points in just five minutes. This is the so-called "Flash Crash" of 2010. The DJIA after the 400-point drop was able to recover within 20 minutes and closed the day about 3.0% down. High-Frequency Trading held responsible for this abnormal DJIA behavior and since then HFT made everyone skeptical about the future.

 

High-Frequency Trading Strategies

Here are the main high-frequency trading strategies:

1) Market Making Strategy

This is the simplest way to profit from high-frequency trading. The market-making strategy involves placing 2 controversial trades (bid and ask) in order to profit from the bid-ask spread.

2) Low-Latency Arbitrage

This trading strategy relies on low latency technology. The ability to trade fast can lead to the exploitation of price inefficiencies when the same security is traded simultaneously on two disparate markets.

3) News-Trading Strategies

This is a very popular method of speculation. Macroeconomic or company news create a predictable row of fluctuations. HFT systems given the right configuration can process and trade the news faster than individual human traders.

4) Event Arbitrage

This strategy aims to exploit predictable short-term fluctuations after important events.

5) Statistical Arbitrage

The statistical arbitrage strategies are designed to take advantage of temporary deviations from important historic statistical relationships among certain financial assets.

 

 

High-Frequency Trading Basic Glossary

1. What is High-Frequency Trading (HFT)? Definition by Nasdaq

High-Frequency Trading is computerized trading using proprietary algorithms. There are two types of HFT trading:

(i) Execution trading is when an order (often a large order) is executed via a computerized algorithm. The program is designed to get the best possible price. It may split the order into smaller pieces and execute at different times.

(ii) The 2nd type of high-frequency trading is not executing a set order but looking for small trading opportunities in the market.

2. What is Latency?

Latency is the time needed for a signal to be sent and to be received. The lower the latency the faster is the trading. The speed of light in a fiber optic cable is stable to 186,000 miles per second so Latency to a high extend is determined by Geography (distance between the location of the signal sender and the signal receiver).

3. What is Co-Location?

Co-Location means that the servers of the HFT firms are located on the same premises where the exchange’s servers are situated. Co-Location offers the opportunity to HFT firms to access prices a split second before anyone else. The location of the servers of an HFT firm is also called the ‘Point of Presence’.

4. What is Statistical Arbitrage?

The historic correlation of prices between securities creates the opportunity to trade the imbalances in those correlations. Trading exclusively via the use of standard deviations is called Statistical Arbitrage.

5. What are Liquidity Rebates?

A liquidity rebate means making money out of trading volumes. Liquidity rebates are offered as an inventive for maker-makers in order to increase the liquidity of the whole system. HFT firms that have access to liquidity rebates can generate profits from zero-sum trade positions. That is very important.

6 What is Dark Pool Liquidity?

By the term Dark Pool, we are referring to the trading activity created by anonymous institutions that are hidden from the general public. The dark pool liquidity appears in block trades.

7. What is a Matching Engine?

A Matching Engine is an algorithm designed to match the distance between buyers and sellers (first ask and bid orders).

 

 

High-Frequency Trading Software Solutions

Here are two examples of High-Frequency Trading Solutions

1. SILEXX Obsidian

Obsidian is a High-Frequency Trading system designed to provide speed, customizability, flexibility, and feature richness. The low-latency infrastructure is powered by Cisco gear.

Obsidian Trading Features

The system offers features such is:

1) Multiple order entries

2) Market Depth Tickets

3) Hotkeys

4) Complex Order Ticket for option trading strategies (i.e. Spread Maker)

5) Advanced Visualization (fast charting with multiple indicators)

6) Portfolio Modules (Delta exposure monitor, dividend policies, etc)

7) Risk Radar (Managing Market Risk in real-time)

► Find more about Silexx Obsidian on their web-site

 

2. Light-Speed Trader

Light-speed Trader has been in the market for many years. The platform offers GTC Orders for both options and equities trading.

Light-Speed Trader features:

1) Multi-Threaded and Multi-Cored 64-bit Processing

2) Low-Latency Execution and many Order Routing Destinations

3) Advanced Options Trading (monitors time and sales)

4) GTC orders (Limit, Stop, Stop Limit)

► Light-speed Trader web-site

 

 

Brokers for High-Frequency Trading

Here are some brokers offering this type of trading: 

► TDAmeritrade | ► InteractiveBrokers | ► SuperDerivatives

 

Suggested Book: “Flash Boys” by Michael Lewis

 

■ High-Frequency Trading (HFT)

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