session 3a 2 golub
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ContentHigh Frequency Trading
Mini Flash CrashesReferences
High Frequency Trading
Anton Golub
Manchester Business School
May 5, 2011
Anton Golub High Frequency Trading
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ContentHigh Frequency Trading
Mini Flash CrashesReferences
High Frequency TradingCharacteristicsMarket MicrostructureHigh Frequency Trading Strategies
Mini Flash CrashesIntroductionDefinitionExamplesStatistics
References
Anton Golub High Frequency Trading
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ContentHigh Frequency Trading
Mini Flash CrashesReferences
CharacteristicsMarket MicrostructureHigh Frequency Trading Strategies
Definition & Characteristics
High Frequency Trading (HFT):
extremely fast, fully automated and computerized trading
short trading time horizon
benefits from market liquidity imbalances and short-term pricinginefficiencies
require real-time data analysis and trading decisions
do not carry overnight positions
As HFT is sensitive to latency, high frequency trading firms:
co-locate their computers next to exchanges
buy raw data from exchanges and reconstruct the order book bythem self
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ContentHigh Frequency Trading
Mini Flash CrashesReferences
CharacteristicsMarket MicrostructureHigh Frequency Trading Strategies
Volume & Who is trading & Annual Profits
HFT represents 70% of U.S equity volume (77% in UK) - done by only2% of traders;
Biggest traders: Goldman Sachs, Credit Suisse, GETCO, Renaissance
Technologies, Citadel. Yearly profits in U.S. are estimated to $21 billion.Anton Golub High Frequency Trading
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ContentHigh Frequency Trading
Mini Flash CrashesReferences
CharacteristicsMarket MicrostructureHigh Frequency Trading Strategies
Strategies
HFT can be broadly categorized into:
liquidity detection strategies: Rebate Trading, Automated MarketMaking
pricing inefficiencies strategies: Scalping, Latency Arbitrage,Statistical Arbitrage
predatory strategies: Flash Trading, Quote Stuffing
Anton Golub High Frequency Trading
Content
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ContentHigh Frequency Trading
Mini Flash CrashesReferences
CharacteristicsMarket MicrostructureHigh Frequency Trading Strategies
What is the essence of HFT strategies?
Customer: How much are those?Merchant: A buck fifty.Customer: Ill take some.
Merchant: Theyre a buck fifty-one.Customer: Um, you said a buck fifty.Merchant: That was before I knew you wanted some.Customer: You cant do that!Merchant: Its my shop.Customer: But I need to buy a hundred!
Merchant: A hundred? Then its buck fifty-two.Customer: Youre ripping me off.Merchant: Supply and demand, pal. You want em or not?
Anton Golub High Frequency Trading
Content
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ContentHigh Frequency Trading
Mini Flash CrashesReferences
CharacteristicsMarket MicrostructureHigh Frequency Trading Strategies
Rebate Trading
HFT Strategies:Rebate Trading
Anton Golub High Frequency Trading
Content
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ContentHigh Frequency Trading
Mini Flash CrashesReferences
CharacteristicsMarket MicrostructureHigh Frequency Trading Strategies
Rebate Trading
Exchanges pay HF traders that post best limit sell or best limit buyorders - Liquidity Rebate: $0,003/share.
HF traders plan: place a limit buy order
if his order is matched, he turns around and place a limit sell orderat the same price
profit from trading will be $0,00, but he will collect rebates!
Anton Golub High Frequency Trading
ContentCh i i
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ContentHigh Frequency Trading
Mini Flash CrashesReferences
CharacteristicsMarket MicrostructureHigh Frequency Trading Strategies
Rebate Trading
Price Sharesbest offer 10,02 600
best bid 10,01 100 HFT buy order
bid 10,00 100
Price Sharesoffer 10,02 600
best offer 10,01 100 HFT sell order
best bid 10,00 100
Total profit = Profit from trading + Rebates =$0, 00 100 + $0, 003 200 = $0, 60.
Anton Golub High Frequency Trading
ContentCha acte istics
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High Frequency TradingMini Flash Crashes
References
CharacteristicsMarket MicrostructureHigh Frequency Trading Strategies
Flash Trading
HFT Strategies:Flash Trading
Anton Golub High Frequency Trading
ContentCharacteristics
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High Frequency TradingMini Flash Crashes
References
CharacteristicsMarket MicrostructureHigh Frequency Trading Strategies
Flash Trading
exchange A exchange BPrice Shares Price Shares
offer 10,02 600 10,02 400best offer 10,01 500
best bid 10,00 100 10,00 200
mutual fund sends an order to buy 500 shares to exchange A
exchange A does not have the best offer, so the order must berouted to exchange B
instead exchange A flashes the order to privileged group of HFtraders for 30 milliseconds
if the order is matched it will be traded at $10,00 (superior to all sellorders)
Anton Golub High Frequency Trading
ContentCharacteristics
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High Frequency TradingMini Flash Crashes
References
CharacteristicsMarket MicrostructureHigh Frequency Trading Strategies
Flash Trading
What is the problem with Flash Trading?
creating a tiered market - some traders see the incoming order, otherdo not
gaming the exchange fee structure - orders must be routed to thevenue with the best possible price
allows front running - HF traders have the upper hand in knowing
mutual funds intentions
Anton Golub High Frequency Trading
ContentHi h F T di
IntroductionD fi i i
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High Frequency TradingMini Flash Crashes
References
DefinitionExamplesStatistics
Flash Crash
FLASH CRASH
Anton Golub High Frequency Trading
ContentHigh Fre enc Trading
IntroductionDefinition
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High Frequency TradingMini Flash Crashes
References
DefinitionExamplesStatistics
May 6th Flash Crash
May 6th Flash Crash: second largest point swing of 1,010.14 points
biggest one-day point decline of 998.5 points, on an intraday basis inDJIA history
markets crashed in less than 5 minutes, just to soon recover
Figure: Flash Crash
Flash Crash + scaling laws/fractal nature of price mini Flash crash
Anton Golub High Frequency Trading
ContentHigh Frequency Trading
IntroductionDefinition
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High Frequency TradingMini Flash Crashes
References
DefinitionExamplesStatistics
Definition of Mini Flash Crash
Nanex Llc. defined a up/down mini Flash Crash as:
at least 10 up/down price moves before ticking down/up
price change has to be greater than 0.8%,
all within 1.5 seconds.Down Crashes Up Crashes
2006 254 2082007 2,557 2,4562008 4,065 4,354
2009 1,462 1,2532010 1,041 777Total 9,379 9,048
Anton Golub High Frequency Trading
ContentHigh Frequency Trading
IntroductionDefinition
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High Frequency TradingMini Flash Crashes
References
DefinitionExamplesStatistics
Figure: Daily occurrences between January 1, 2006 and November 3, 2010
Anton Golub High Frequency Trading
ContentHigh Frequency Trading
IntroductionDefinition
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High Frequency TradingMini Flash Crashes
References
DefinitionExamplesStatistics
Example of Up Crash
Figure: Goldman Sachs (GS) Up Crash
Anton Golub High Frequency Trading
ContentHigh Frequency Trading
IntroductionDefinition
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g q y gMini Flash Crashes
ReferencesExamplesStatistics
Example of Down Crash
Figure: Goldman Sachs (GS) Down Crash
Anton Golub High Frequency Trading
ContentHigh Frequency Trading
IntroductionDefinition
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g gMini Flash Crashes
ReferencesExamplesStatistics
Important Research Questions
How is getting hurt by mini Flash Crashes?
How can we prevent mini Flash Crashes? Should we penalize the
parties involved? What is the most likely time for a mini Flash Crash to occur?
Which companies are most likely to get hit?
Can HFT be singled out as the main source?
Does the behavior of price change before/after the mini Flash Crash?
Can mini Flash Crashes be predicted?
Anton Golub High Frequency Trading
ContentHigh Frequency Trading
IntroductionDefinition
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Mini Flash CrashesReferences
ExamplesStatistics
Distribution of Crashes during the day
Figure: Distribution of crashes during the day
Anton Golub High Frequency Trading
ContentHigh Frequency Trading
Mi i Fl h C h
IntroductionDefinitionE l
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Mini Flash CrashesReferences
ExamplesStatistics
Average Price before the Crash
Figure: Average Price before the crash
Anton Golub High Frequency Trading
ContentHigh Frequency Trading
Mi i Fl h C h
IntroductionDefinitionE l
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Mini Flash CrashesReferences
ExamplesStatistics
Average Price vs. Intensity of the Crash
Figure: Average Price of the down-crash vs. Intensity of the down-crash
Anton Golub High Frequency Trading
ContentHigh Frequency Trading
Mini Flash Crashes
IntroductionDefinitionExamples
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Mini Flash CrashesReferences
ExamplesStatistics
Average Price vs. Intensity of the Crash
Figure: Average Price of the down-crash vs. Intensity of the down-crash
Anton Golub High Frequency Trading
ContentHigh Frequency Trading
Mini Flash Crashes
IntroductionDefinitionExamples
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Mini Flash CrashesReferences
ExamplesStatistics
Impact on Liquidity - bid/ask spread
No Impact on Bid-Ask Spread!
Figure: Average spread before vs. after the crash
Anton Golub High Frequency Trading
ContentHigh Frequency Trading
Mini Flash Crashes
IntroductionDefinitionExamples
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Mini Flash CrashesReferences
ExamplesStatistics
How Can a mini Flash Crash Occur?
Crashes might be a result of top of the book protection that isintended to prevent trade-throughs.
INET ARCAbid/ask price size price size
ask 32.02 500 32.02 500ask 32.01 500
best ask 32.00 500
best bid 31.99 100 31.99 100
Table: Order book of security XYZ
Market order to buy 1000 shares is sent to ARCA; 500 shares will berouted to INET (32.00), but the remaining 500 shares will be filled on
ARCA (32.02).
Anton Golub High Frequency Trading
ContentHigh Frequency Trading
Mini Flash Crashes
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References
References
High Frequency Trading and its Impact on Market Quality, Jonathan A.Brogaard, November 2010Low-Latency Trading, Joel Hasbrouck, Gideon Saar, November 2010Does Algorithmic Trading Improve Liquidity, Terrence Hendershott,
Charles M. Jones, Albert J. Menkveld, Journal of Finance, ForthcomingThe Effect of High-Frequency Trading on Stock Volatility and PriceDiscovery, X. Frank Zhang, August 2010Market Efficiency and Microstructure Evolution in U.S. Equity Markets:A High-Frequency Perspective, Jeff Castura, Robert Litzenberger,
Richard Gorelick, Yogesh Dwivedi, August 2010Empirical Limitations on High Frequency Trading Profitability, MichaelKerns, Alex Kulesza, Yuriy Nevmyvaka, June 2010Nanex LLc, nanex.net
Anton Golub High Frequency Trading
ContentHigh Frequency Trading
Mini Flash Crashes
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References
The End
Thank you for your attention!
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