No, the SEC mandates that the limit be < 500ms, i.e. if it were > 500ms, then the exchange would be required to publish the flash order.
The limit was 30ms at Direct Edge, and I believe everywhere else as well.
There are also mandatory fill rates - i.e., if you don't fill at least 30% (or some such fraction) of the orders that are flashed to you, you get kicked out of the ELP program.
Your timeline is also wrong:
- said company goes and buys up the AAPL on the market, ahead of you - your order to buy AAPL hits, executing at a slightly higher price than you expected
Your limit order to buy AAPL at $610.00 hits the market and goes unfilled.
In fact, the ELP program was mainly about increasing order flow. It was a way for some HFT's to jump the queue - rather than being faster with public bids on ARCA, you can just flash people on Direct Edge.
The people being flashed chose to be flashed (note: there was a flag you could set to turn flash orders off) because it would reduce their routing fees.
A much more legitimate criticism of flash orders is that they benefit Goldman or Getco to the detriment of Joe's HFT Shop.
When I read about these things it reminds me of when I was working for a gambling site a few years back. Arbitrary rules, designed to maximize profit for the bank.
If your ELP members aren't filling orders, then customers pay more to have their orders routed and DE makes less money.
This has always happened. Suppose you're in a room with your investor club and you want to buy 500 shares of AAPL. The evil "flash order" is akin to mentioning to your local group "hey guys I want to buy 500 shares of AAPL at $x, in case any of you want the other side of the transaction".
If none of your local group (with whom a trade would incur no transaction cost) wants it, then it goes through to the wider market where it may or may not find a counterparty.
The 0.5 second time limit is arbitrary, chosen to accomodate a range of latencies for the various local would-be-counterparties.
Nobody is stealing anything. It's just a way around some of the fees that one willingly pays for harder to fill orders. If an entity on your local ETN has a market making strategy where he/she is willing to fill some orders, then a flash order rule can improve efficiency by removing transaction cost.
If you think this is a bad thing then you have a profound misunderstanding of its mechanics. Ironically, like most of the anti-HFT claims, your position benefits the old school establishment exchanges. ETNs are the little guys trying to compete against the big guys by offering better technology and lower transaction costs. Flash orders are part of their service to fight against the competition-stifling fees charged by the big guys to route electronic orders.
This gets back to the nature of the market price. There is a fallacy that the market price is the price of the last trade. At any price, there is some combination of supply and demand.
Similarly, at any latency, transaction fee, etc., supply and demand may converge slightly differently (without NBBO rules). Since there is always the risk of trades occurring too far away from the price on the larger market, any ETN trader is going to figure out what his/her risk aversion is to this phenomenon and design his/her strategy accordingly.
For an HFT trader on an ETN w/o NBBO rules, it might make sense to buy a data feed from the NYSE to be sure to be aware of the up-to-the-second prices there. The NBBO rules benefit both the large mega-exchanges like the NYSE and also benefit other market participants who would have to buy a separate data feed to reduce risk, by strapping the cost of that additional data onto the backs of all the other participants, even those who would have a greater appetite for risk or whose strategies don't depend as much upon the ultimate depth at a given price.
What makes this even sillier is that for the small investor, trades on something like eTrade cost $20 each. If you're simply moving the investment between two investments that means two trades. This makes a LOT of strategies utter failures and not worth trying. The world of ETNs is just one more step of automation, dollars, and sophistication away from a simple eTrade account... hence its highly disruptive nature and the many startup hedge funds that have sprung up.
The genius of ETN creators was the realization that there is lots of depth provided by smaller, more niche players... to the point where many trades can be filled directly on the ETN for no fee. This opens up the door to many strategies that would simply have been impossible before, and combines the capital of each of these smaller players... each of whom has some exposure and who combined offer non-trivial depth... enough to take away volume from the major exchange monopolists.
This was not lost on the major exchanges who used their clout with regulators and journalists to institute the NBBO rule, to paint flash orders in a negative light, and generally sure up their monopoly positions against any competition.
Yes I said it, the major exchanges should be subject to a major anti-trust investigation and broken up. Of course, everyone (regulators included) is so afraid of upsetting the market that this will never happen... and if some other country opened up a market allowing such things, the US would ban Americans from using it.
What is your definition of "ETN"? The only definition I know is "Exchange Traded Note" which doesn't make sense here. Do you mean "ECN"(Electronic Communications Network)?
Incidentally, the NBBO rules are sold as a way of protecting the interest of the little guy, but they simply concentrate power with the big exchanges. Obviously if you're trading on a peripheral ETN and getting free transactions you are OK with being a few cents off here and there (and if you're too dumb to realize you're overpaying for something, your strategy is not likely to succeed). NBBO imposes a huge network tax on the entire system, which is deplorable.
In a properly decentralized and competitive system, anyone who cares what the NBBO price is willing to pay extra for the information, and those who don't care can take whatever amount of risk they are comfortable with.
And yet most market participants think banning them is a no-brainer.
The NYSE's members are the big market making firms who have the most to lose if there is more competition -- IE more small firms using market making strategies.
They prey on the fear and ignorance of their audience.
I'm going to go out on a limb and say that you, and those who upvoted you, have little or no experience in financial markets. Comparing flash orders to front running a trojan is a terrible analogy. For one, the mechanics are not as you described (other commenters have touched on this). But most importantly, where this is still practiced, the market participants have voluntarily decided to do so and the order flow is openly published, unlike a hacked computer where the user is oblivious.
And even if we assume flash orders are evil, I think it's disingenuos to mention all of the SEC drama surrounding them without mentioning that several leading exchanges have voluntarily stopped the practice, and that flash orders make up a tiny percentage of total trading volume.
Hint: the people doing the trades are not brokers.
>And even if we assume flash orders are evil, I think it's disingenuos to mention all of the SEC drama surrounding them without mentioning that several leading exchanges have voluntarily stopped the practice, and that flash orders make up a tiny percentage of total trading volume.
So you're going to argue, in the same post, both that flash orders are not front-running and that several exchanges, to avoid liability, have stopped doing them? Intriguing.
The practice was stopped because it became unpopular due to the dramatization of HFT in the media. In the presence of a large number of fragmented equity exchanges, flash orders facilitate lower transaction costs and lower latency.
It honestly isn't clear to me at all what you're griping about. It's like you read an article on the Internet and suddenly you're an expert on flash orders. I am not an expert on flash orders (and someone correct me if I am wrong), but it's pretty clear to me you're very confused.
Equating flash orders and front-running does not make sense as the HFT doesn't know of the order before it is placed vis-à-vis the retail trader. The HFT appears to have prevoyance vis-à-vis slower market makers, which is why they are the ones complaining about high frequency market makers. It's actually quite analogous to Hollywood complaining about Netflix, which is why it confuses me that HN participants find technology in the capital markets so anathema.
And also because they have paid to get the information 0.5 second sooner, so that they could trade on their insider information.
- I believe you have to opt in to have your order flashed. You seem to be suggesting this is happening behind traders backs
- Only one market in the US still supports these types of orders. It may have happened hundreds of times while reading your sentence but that is a tiny fraction of executions occurring across all exchanges during that time-frame.
But in fact that entire scenario he just described is perfectly legal. The industry calls them "flash orders", and due to industry pushback against an SEC initiative to ban them in 2009, they are still legal.
Nutshell description:
- you put in an order to buy AAPL
- your trusted exchange "flashes" the order to a company that has paid for the information, so they know you want to buy AAPL. They now have exactly .5 second (SEC rule) to act on that information before your order hits the wider market.
- said company goes and buys up the AAPL on the market, ahead of you
- your order to buy AAPL hits, executing at a slightly higher price than you expected
- said company sells AAPL at the new higher price (perhaps to you)
You've acquired AAPL at a slightly inflated price, and another company has pocketed the extra money you paid. They could buy low and sell high with a GUARANTEE of success because they knew your order was coming to the market. We used to call this front-running and call it illegal, but not in the modern U.S. stock market.
This is completely legal in the United States. It's happening now. It happened hundreds of times while you read this sentence.