To compensate for this disadvantage to the buyer, are supposed to prevent news of the order causing a price change at the other exchanges by spreading faster than filling of the order,
This is simply incorrect. There is a regulation which requires exchanges to transmit news of price changes to the other exchanges as rapidly as possible. The purpose is to ensure that all fills happen at the NBBO.
In concrete terms, if BATS has a BUY@$20.00 and ARCA has a BUY@$20.01, BATS is forbidden from filling your order.
Example: NYSE order book
100,000 shares offered $10.02
100,000 shares offered $10.00 (quote)
NASDAQ order book
100,000 shares offered $10.01 (quote)
You send a "buy 200,000 shares $10.02 limit" order to the NYSE.
The NYSE is REQUIRED to route 100,000 shares away to NASDAQ@$10.01, rather than filling the extra 100,000 at $10.02.
An HFT intercepts the trade, buys the 100,000 at NASDAQ @$10.01 ahead of you, and also can buy the 100,000@$10.02 at NYSE ahead of you. Now you have to pay $10.03 to buy the remaining 100,000 shares.
Imagine an alternate scenario: You send an order "buy 100,000 shares $10.00 limit" to NYSE. Does the HFT spend $4MM buying up 200k on the off chance that you want more than the 100k you already bought? If not, why?
You placed an ordinary 200,000 share limit order. You didn't use one of the special order types.
It is riskless for the HFT to buy 100,000 from NASDAQ, knowing they can sell back to you when you buy the other half of your order. Other algos, seeing a big buy, move up the price, so the HFT (may) be able to safely buy and then sell to them.
Assuming for the moment that someone can see an execution from NYSE and route an order to NASDAQ in response in less time than NYSE can send their own order to that Exchange you haven't answered the rest of the question.
How does the HFT even know there is an order in-flight to NASDAQ? How does the HFT know that the buyer is willing to pay $10.02?
> You placed an ordinary 200,000 share limit order. You didn't use one of the special order types.
Is this supposed to be an answer? 100k executed at NYSE @ $10.00, this is public information. NYSE routed the other 100k to NASDAQ. Are you saying there is some way for Mr. HFT to know the particulars of that order to NASDAQ?
> knowing they can sell back to you when you buy the other half of your order.
You seem to be under the impression that at some point along the line someone besides the NUSE is seeing the parent order details (buy 200k @ $10.02). Please explain how you believe this information is transmitted to third parties.
If a 200,000 share limit order is placed at the NYSE, the HFTs know that regulation NMS requires the NYSE to route shares to the BBO on other exchanges, before filling the order from their own book.
No, they don't. Third parties cannot see orders "as they come in". Only orders displayed in the exchange's book and executions already completed are sent out to data consumers.
In the example you created the 200k buy order is never displayed and as such is not visible to any other user. All an HFT can see is the 100k execution.
Again, an HFT rushing to buy in front of this order cannot know how big it actually is, nor what the limit price is and as such whatever buying is purely speculative and not a "guaranteed win".
Direct quote from article:
With Reg NMS, it essentially took x amount of available stock at one place, and made it one tenth of that x at ten different places.
If that isn't a regulation forcing large purchases to split up, then it's on you to explain why.
Here is RegNMS. Find me a place where it says liquidity must be divided between all possible exchanges: https://www.sec.gov/rules/final/34-51808.pdf
If I offer 100,000 AAPL at NBO at exchange X, and you are willing to purchase 100,000 AAPL at NBO, your buy order matches mine exactly and the transaction takes place. This is highly unlikely, of course, that an enormous stock transaction like this ($50M) will take place this way.
A related topic would be how often they take enforcement actions.
A lot of HFT is market-makers competing for positions in the book. They're simply providing liquidity and literally the more trades they make the more money they make. Market-making is socially valuable (decreases the cost of trading aka the spread) in a similar way that arbitrage is, and as I understand it this is why people are so hesitant to regulate HFT, despite some of the problems it causes. As far as preferential treatment, consider that exchange fee schedules prefer these kinds of traders for a reason.
Exchanges are for-profit and their liquidity providers don't execute trades for the fun of it, there has to be incentive, even if the incentives are at times perverse
I'll admit its funny to see the libertarian bastion of HN get so worked up about HFT. Free markets are all fun and games when it's Uber or AirBnB, but HFT harming retail investors seems to really hit a nerve
1. Buyer A wants to buy 50 shares of Acme Corp.
2. The order hits Exchange A first, and Exchange A has 25 shares of Acme Corp. at $20.00 (currently the best price).
3. The order is partially filled, and then on to Exchange 2 to try to get the other 25 shares.
4. Exchange 2 also has 25 shares of Acme Corp. at $20.00 at the time the order hits Exchange 1.
5. An HFT bot saw the order hit Exchange 1, and, in the time it takes for the order to move on to Exchange 2, is able (due to having much faster access) to buy those 25 shares at Exchange 2 before the order gets there, then offer them to the buyer at $20.01.
The fact that the HFT bot was able to act in Exchange 2 with advance knowledge of an order that would arrive at but had not yet arrived at Exchange 2 is what people complain about. And, more generally, people complain that this provides no benefit to buyers or sellers; the buyer was going to buy those 25 shares, and the seller was going to sell those 25 shares, no matter what. So no additional liquidity or market-making went on, and the buyer's order likely is not filled any more quickly than it would otherwise have been.
(and several articles complain that this practice actually leads to loss of liquidity, in that orders go unfilled because HFT bots racing ahead from exchange to exchange have reduced the previously-available shares)
The workaround that's been presented is to have the actual initial order take circuitous, deliberately time-delaying routes to the exchanges in order to have it hit multiple exchanges within a short enough time that an HFT bot can't inject itself as an artifical middleman.
Rather than repeat myself, I'll just link to a blog post I just wrote about it.
http://www.chrisstucchio.com/blog/2014/fervent_defense_of_fr...
In ubernostrum's example (which is also the one appearing in the OP to this thread), there are existing orders in the book that match the entire block. So the HFT in between adds nothing; the entire trade would have occurred at the original offer without him.
Alter the scenario here:
1. Buyer wants 25 shares, buys all available shares at his limit price on exchange A.
2. HFTs 1-n see the entire quote taken at Exchange A and rush to buy all available shares at that price on Exchanges B-K
3. HFTs now own a few hundred shares of Acme corp that they need to unwind.
1. Force you to split up the purchase among multiple exchanges, and
2. To compensate for this disadvantage to the buyer, are supposed to prevent news of the order causing a price change at the other exchanges by spreading faster than filling of the order, so that you don't have to deal with an artificially-inflated price on top of artificially-imposed split of your order.
But while (1) is enforced, (2) is not. Which means buyers and most sellers have to play by one set of rules while people who want to inject themselves as middlemen get to play by a different set of rules.
At least, that's what seems to be being described here, and I certainly can see problems with it.
(not to mention that that "liquidity" and "efficiency" arguments fall flat -- the types of HFT schemes being described here work only by creating artificial illiquidity, and I don't know of any rigorous argument that creating more middlemen improves efficiency)