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Goldman's $4 Billion High Frequency Trading Wildcard
- Algorithmic Trading
- Allen Stanford
- Dark Pools
- dark pools
- Federal Deposit Insurance Corporation
- Goldman Sachs
- goldman sachs
- Green Shoots
- High Frequency Trading
- High Frequency Trading
- Latency Arbitrage
- New York Stock Exchange
- Program Trading
- program trading
- Prop Trading
- Real estate
- Risk Management
- Sergey Aleynikov
- Sigma X
- Sigma X
- SLP
- Tabb
- Volatility
A recent story in Advanced Trading goes after some of the minutae of High Frequency Trading and provides a glimpse of the total value that HFT may provide to behemoth PT powerhouses such as Goldman Sachs. The article presents a very valuable perspective on just why HFT is so critical these days, especially when cash traders go for 6 hour Starbucks breaks between 10 am and 3:30 pm: "high frequency trading firms, which represent approximately 2% of the 20,000 or so trading firms operating in the US markets today, account for 73% of all US equity trading volume. These companies include proprietary trading desks for a small number of major investment banks, less than 100 of the most sophisticated hedge funds and hundreds of the most secretive prop shops, all of which operate with one thing in mind—capture profit opportunities by being smarter and faster than the closest competition." And as the market keeps going up day in and day out, regardless of the deteriorating economic conditions, it is just these HFT's that determine the overall market direction, usually without fundamental or technical reason. And based on a few lines of code, retail investors get suckered into a rising market that has nothing to do with green shoots or some Chinese firms buying a few hundred extra Intel servers: HFTs are merely perpetuating the same ponzi market mythology last seen in the Madoff case, but on a massively larger scale. When it all blows up, the question is whether the SEC will go after the perpetrators of this pyramid with the same zeal that it pursued Madoff himself. We think not.
The reason for this, as the AT article points out, is that HFT has become the biggest cash cow for Wall Street: "The incredible capabilities offered by technology have given meteoric rise to a relatively few high frequency proprietary trading firms that now wield far greater influence on the markets today than most people recognize." How big of a cash cow:
"Proprietary trading takes in a number of unique strategies, including market making, arbitrage (ETFs, futures, options), pairs trading and others based on the linked trading of more than one asset class, e.g., futures index and cash equities. In fact, TABB Group estimates that annual aggregate profits of low latency arbitrage strategies exceed $21 billion, spread out among the few hundred firms that deploy them."
The $21 billion estimate is smack in the middle of the FIXProtocol estimated $15-$25 billion in revenue that HFT generates. So let's do a back of the envelope calculation: Goldman controls roughly 50-60% of principal program trading on the NYSE, which in turn accounts for 30% of all global program trading. Throw in Goldman's domination of dark pool trading through Sigma X, and one can come up to quite a sizable number - It would not be a stretch to conclude that, through various conduits, Goldman is directly responsible for over 20% of global HFT trading. 20% of $21 billion is over $4 billion a year. As margins on HFT are sky high (it doesn't cost all that much to tweak a few hundred lines of code - and if Sergey Aleynikov is any indication, $400,000/year for VPs in the program is peanuts for a firm like Goldman), this $4 billion likely drops to the bottom line almost dollar for dollar. Let's recall that Goldman's Q2 earnings were $3.44 billion. Does this mean that HFT/PT accounts for roughly 25% of earnings for the firm that is a hedge fund in all but FDIC backing? Zero Hedge would in fact take the over, especially in this environment where M&A fees are a distant memory. We leave this question open, but even if we are off, it would not be by order of magnitude, and would explain why Goldman has thrown the kitchen sink into dominating such NYSE programs as the SLP, and is expending so much energy to dominate dark pools as well.
Going back to the AT article, which provides some additional critical observations, especially with regard to the Aleynikov arrest and his ludicrous $750,000 bail which surpasses that of indicted Ponzier Sir Allen Stanford:
First, strategies that optimize the value of high frequency algorithmic trading are highly dependent on ultra-low latency. The right decisions are based on flowing information into your algorithm microseconds sooner than your competitors. To realize any real benefit from implementing these strategies, a trading firm must have a real-time, colocated, high-frequency trading platform—one where data is collected, and orders are created and routed to execution venues in sub-millisecond times.
Next, since many of these strategies require transacting in more than one asset class and across multiple exchanges often located hundreds of miles apart, i.e., NY to Chicago, that infrastructure will often require roundtrip long haul connectivity between the data centers. [TD:Any real estate professionals out there who can determine just how easy it is to set up a colocated station within millisecond distance of the NYSE, and whether or not Goldman has any rights of first refusal on this real estate optionality? Nothing like a little derivative monopoly to keep potential SLP vendors at bay]
Lastly and most importantly, this code has a limited shelf life, whose competitive advantage is diluted with each second it is outstanding. While a prop desk's high level trading strategy may be consistent over time, the micro-level strategies are constantly altered—growing stale after a few days if not sooner—for two important reasons. Firstly, because high frequency trading depends on ridiculously precise interaction of markets and mathematical correlations between securities, traders need to regularly adjust code—sometimes slightly, sometimes more—to reflect the subtle changes in the dynamic market. The speed and volatility of today's markets is such that the relationships forming the core of our algorithm strategies often change within seconds of our ability to implement the very strategies that exploit them. Secondly, competitive intelligence is so good across all rival trading firms that each is exposed to the increasing susceptibility of their strategies being reverse engineered, turning their most profitable ideas into their most risky. As a result, any firm acquiring the "stolen" code would gain benefit from it for no more than a few days before that firm would need to adjust the code to the dynamic conditions. Since these changes build on themselves, in a matter of weeks that code would look quite different from that which was originally "stolen."
And the conclusion:
There's no doubt that Goldman Sachs, or any other proprietary trading firm, could indeed lose tens of millions of dollars from its proprietary trading if their strategies are stolen—and that is very serious. The competitors that obtain access to these trading secrets could (and would) use it to front run or trade against it, ruining even the most well-planned tactics. This news story contains many very important sub-plots: trading espionage, the necessity for a trading firm to have sophisticated security systems built around its technology, the requirements for risk management, and even the potential for proprietary trading software to be targeted on a wider scale for terrorist activity; but more than anything else it highlights the critical role played by high frequency prop trading in this new market.
This is indeed, a conclusion that Zero Hedge has been pounding the table on for months. It is imperative that Wall Street firms shed much more light into this astronomically profitable yet highly misunderstood and under the radar concept. In the absence of more information, the likelihood that Wall Street firms who dominate order flow and have material unfair advantages over virtually everyone else, should be isolated from trading up to the point where they provide sufficient information to make the market a fair and equal playing field for all investors. Until that moment, investing, trading and speculating is doomed to have the same outcome for the majority of market participants as playing roulette with 35 instances of 00, a much lower fun coefficient and no ability to be comped for your room in light of significant trading losses.
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yep TD,
yet another story I will file under:
"The Rich Get Richer - The rest get shat upon"
subfile: Government Sanctioned / Bloodsucking
Whatever this is called, it is not Capitalism. Its a shame that capitalism will take the rap for it though. It already is, even in comments I've seen on this site, where people usually know better.
"In the absence of more information, the likelihood that Wall Street firms who dominate order flow and have material unfair advantages over virtually everyone else, should be isolated from trading up to the point where they provide sufficient information to make the market a fair and equal playing field for all investors."
Surely TD, you are not implying that Wall Street would use this powerful, market-manipulating tool to take advantage of an uninformed public when it has complicit regulators, virtually no oversight and and a consequence-free environment?!?
I used to be able to trade the market and make a little bit of money for myself, but since the HFT started and now dominating it, I have no chance with my poor connection and slow human reactions!
Smoke a bag of weed and watch Robocop, you'll feel better, trust me.
FTW
The bizzarness of HFTs is that if cap and trade is passed and becomes the norm, these HFTs can instruct the earth to become warmer or colder on a whim. Now you see global warming, now you don't. So will we really be trading carbon credits for a better cause or is it just another virtual market which can relieve Main Street of its hard earned savings. Better get into the good books of Goldman Sachs you carbon polluting coal plant, because your future existence depends on being blessed by this blood sucking vampire squid.
That and turning on HAARP. No conspiracy, just a fact if you look at the 70's UN resolution on not using weather weapons that might also trigger earthquakes on other countries - you don't pass a law on something that doesn't exist do you?
A former Far East correspondent for Forbes magazine, Fulford, fluent in Japanese, hosted a weekly podcast from Tokyo, and alleges "Hazel" Takana, Japan's finance minister, told him in 2007 "a group of American and European oligarchs" threatened to strike the country with manufactured earthquakes unless he ceded control of the Japanese banking system.
Similarities were cited in Japan's 2007 'quakes with those more recently striking China: "Benjamin Fulford reports from Tokyo on a mysterious plasma weapon seen prior to the Niigata earthquake [... on 16] July, 2007 and red, white and blue lights seen prior to the recent earthquake in China. Both quakes apparently targeted nuclear facilities... coincidence?"
This clarification suggests Japan was first subjected to earthquakes before Tanaka allegedly ceded control of Japan's banks to US and European financial leaders.
http://milkhouse-mouse.blogspot.com/2008/06/western-bankers-threatened-j...
I can only assume you're long JJT.
Good one, that's why I led with the no conspiracy.
Look up HAARP and the UN resolution, you might learn something and then you can thank me for the tip on our brave new world the ignorant masses know nothing about. DARPA also has some interesting inventions that are cutting edge.
By the way, wireless technology was once in the realm of science fiction but we now enjoy the magic of wireless laptops.
In 2004 at lowly HSBC Investment Bank software engineers were discussing utilizing HFT/program trading to trade on sub-second price differentials between the various "market" feeds (they had feeds from brokertec, espeed, cantor, and of course tradeweb and marketaxxess). Truth is such systems are not rocket science -- and as this article points out, its more of a network latency problem than it is an algorithmic complexity one. Of course poor management meant such ideas never got off the ground at tier 2/3/1000(?) HSBC. The GS boys though, they knew how to spot the $$$$. Squid blood money funnels come in handy these days I guess.
This is straight out of Orwell.
It doesn't matter *how* it comes about, only that the Goldverment sacks America by creating a reality that forces the investing public to ultimate be tripped up in major losses.
They have the luxury of time and unlimited nearly-free money...they can profit or double-down on losses to make a profit eventually...as a regular investor, we only have to make one mistake to have huge losses (of our own money, not someone else's).
No one is offering to hand me back the money I have lost in the market. Mr. Geithener, I have lost over $20K in 2009 alone...direct deposit would be fine.
Tyler, I have been reading about this for months, but I still don't understand how HFT can be so consistently profitable if you take out the SLP benefits and assume no overt front running of orders or general packet sniffing. Does it make sense that firms that just rely on statistical relationships or using orders to try to decipher algorithms of the vanilla buy or sell siders (The HFT trders that don't "cheat") can still print money? Since much of the conversation on this site talks about HFT and market manipulation in the same breath, I was wondering if you could talk about the "legitimate" HFT, if there is such a thing.
My biggest worry is who is auditing the HFT code. It just take a few lines of code change in it to start front running the market. Is there a certification board or some code reviewer in SEC ? How can we conclude that these HFTs where man is out of the loop aren't frontrunning the clients already ?
conclude that they ARE front running clients until proved differently. hence the lack of GS agency numbers every week when NYSE comes out with volume #'s.
Well, if there is, let's hope he/she is not an aging half-blind nearly broke former Cobol programmer on water-cooled 360 platforms like m....
fwiw: you can't sniff packets unless someone's given you a span port. now THAT would be a conspiracy.
I would think that don't really need to sniff packets to frontrun. If you are in sitting in the middle of the server executing the transaction (NYSE) and the client (Joe Pot Belly). You are already presented with the bid/ask at that point. The data that matters (bid/ask) is already out of the packet and being presented to you.
You're right, I was just responding to the implication above. I'm not implying that everything is therefore kosher.
is a span/rap the only way...?
Anon, HFT firms get paid by the share from the exchanges to churn. Literally, the NYSE is paying Sachs per share to buy/sell.
Part of the problem with this is that GS is literally able to look and see the orders coming in, due to their servers being co-located at the exchanges, and then places their bid/ask to meet the order demand. They earn their fraction of a penny per share for "providing liquidity" and they do not have to worry to much about getting caught holding the bag due to their ability to beat their competitors to the order flow.
Someone feel free to correct me if my interpretation is incorrect.
So do the other major HFTs participate in the SLP? Does GETCO and Citadel and Wolverine, and the others?
Do a search for SLP on Zero Hedge. All the answers are here... (but FYI, Goldman is the only SLP)
Tyler, that is what I thought when I was responding. I get why GS is able to print money. Its the otehr HFT's I don't understand. If they are not getting the rebate, I don't understand how they can be so consistently profitable. Waht exactly is there advantageother than their ability to fishout patterns and statistical relationships? I can understand if they are trading stocks vs. futures or ETF, or otherwise trading securities that are highly correlated for a mechancial reason as opposed to two stocks being historically correlated or correlated becasue they have similar characteristics. But if they are just out there pattern spotting (ie. not doing anything illegal like front running customers, adn not getting the SLP rebates) and have to constantly tweak their algorithms, how can they be so consistently profitable?
sounds like a nice relationship between GS and NYSE ... GS collects a Vigorish just booking balanced action.
Yep I am sure it is balanced action LOL. Good Lord ... path of least resistance more like it ...
By being to "see" where the largest amount of money is leaning ... GS can move in that direction ... under the cloak of providing "liquidity"?balanced action ..
What a Racket.
Yah, nice relationship:
Please dont spew the crap about GS providing liquidity. They move the markets with their money..period. There is no service behind their motive. They aim to steel from the sucker on the other side of the transaction. Have you ever seen GS's market id on the inside bid when the market is diving? They all reach under their desks and pull out the phone jacks so nobody can reach them. Liquidity...right. This concept of providing liquidity is part of the greatest houdini act ever known to mankind.
Part of the problem with this is that GS is literally able to look and see the orders coming in,
This, practically speaking, would be extremely difficult. Most trading platforms are exceedingly complicated silos. The notion they could hook into them is a good evil plot twist for a movie, but not a sub-second algo trading application.
Algo trading is not illegal. Even if GS did front-run clients, what's the penalty? I'm not saying GS isn't evil, because they are. The heat in this story is the way GS is "paid" to make trades.
The speed of light is roughly 186,000 miles per second. That works out to 186 miles per millisecond, or 0.186 miles (982 feet) per microsecond. That's not a great challenge; even allowing for optoelectronic conversions cutting speeds in half, getting several microseconds ahead of the competition strikes me as quite feasible.
It take microseconds for a process within a cpu of a real time system to be scheduled and executed, without network/disk I/O involved. But, with network/disk latencies and new technologies like infiniband, the combined transaction time (execution of one HFT transaction or frame rate) which is - cpu processing (usecs) + disk I/O (msecs) + network I/O (msecs) = milliseconds. Colocation at NYSE can substantially reduce network latencies but the complete transaction is going to be milliseconds. That will be a tough barrier to crack.
drop disk i/o from your back of the envelope calculation. The trading algo would run entirely in RAM. If there's some DB queries the tables should be entirely in RAM too.
Network IO and middleware would be the biggest bottleneck. I just did a cross-country ping over a private point-to-point and got 176ms latency. A ping inside my plain-vanilla LAN is < 1 ms.
So, it's very probable you could initiate a minimum of 5 trades per 100ms. I don't know how fast the message would get passed to the trading platform via messaging middleware then get confirmation back.
Yeah, I thought about ramdisk after posting :-)
Interesting. Now it should be clear why erlang is a strong contender for trading algos.
-Excellent multi-way processor support. C, C# just don't work like this.
-Ability to update code while the application is running.
As far as connecting hosts via private circuits, this is nothing new or special. A couple of routers and a t1+LEC you are good to go. The messaging isn't a whole lot of bandwidth, so a t1 should be sufficient.
The article borders on hyperbole in some instances. For example, you could easily do nano-second trades based on an algo if the box is approximate to the exchange and is collecting input from that exchange. But trying to do nano-second trades from NY to Chicago is not probable. Some hybrids are totally possible.
Again, by itself there's nothing illegal going on.
Sticking with the systemic risk angle will only get you a "Hey, that zerohedge was right." AFTER it blows up. I mean, how long were people warning about leverage? And what was the response at the time? "You crazy!!"
Any traders have this issue recently? I usually trade in hidden orders with arca and NSDQ, but even if I put out such an order, it seems as if the algorithms, or whoever is market making, can actually see the size. Doesn't that defeat the entire purpose of hidden orders?
Not seeing much HFT today. Volume is anemic, especially for an expiration day.
would be interested to know how long HFT has been more than half of volume on the NYSE.Anyone know?
It's utterly misdirected human effort and adds no value to humanity. What a waste of intelligent minds.
Not only is this kind of business so profitable but everyone trading is paying for their transaction costs. These guys pay no commissions and get their exchange fees rebated to them for creating volume which then tricks other suckers into buying or selling based on false movement.
I guarantee you that if I let any of you trade for me and you had no cost (including cost of capital), it would be very hard for you not to make money. First you would try to make it $0.10 at a time, then $0.1 at a time. If I then told you I would pay you to the closest $0.01, then you would try to make $0.001 at a time and I would pay you $0.009. If the exchanges or SEC wanted, they could kill this business overnight by stopping rebates and forcing anyone with a low latency connection (exchange backbone connected) to be a true market maker like in the early NASDAQ days.
I
Even with zero costs, without the SLP payments, I still don't see how the non GS HFTs are so consistently profitable. If you assume that they are not front running orders, all that leaves them with is trying to spot patterns, compete with each other to trade fungible instruments, and try to creat false signals with volume (taking on risk in the process). Unless they can see an order (ie. they see somene trying to buy ibm at 100 and are able to step in front and lean against the order), how can they be profitable day in and day out? In your example, you speak of someone trading for you, implying that they have your order information and are front running. Is that what Citadel, Wolverine, Getco etc. are doing. There are lots of posts from people who do not seem to have a lot of real information asserting that this is what happens, and maybe they are right, but if they are wrong, how is it possible to be inordinately profitable every single day without the SLP payments? Are there real "honest" HFT's that are doing this through brains, or are they always in some form or another leaning against orers or front running them (again, I am leaving out trading fungible securities where there is a no risk arbitrage, since I would assume that is not the bulk of the profits as you would not have to constantly tweak your algos as the referenced article that started this post mentioned).
Look at the monthly archives how the volume of posts has gone up exponentially.....sadly the quality has declined by a similar amount. Anyone else wish we could have the Zero Hedge of old back and not this 24/7 Goldman bashing? Boring!
I like Goldman bashing. They're a fucking gov't funded hedge fund.
...with 3.4 billion in bonuses.
A cost of popularity. Unfortunately, people typically exhibit opinions more readily than intelligence. That just means more rapid scrolling down some sections of commentary. Let's just hope it doesn't become dominated by the 'angry monkey slings pooh' scene.
If it all gets to be a little too much, you can always go have a nice cry somewhere. Really, it's all right to cry. :)
Q.E.D.
I'm masturbating.
GS' next media campaign soundtrack:
All I wanna do is
BANG BANG BANG BANG
KKKAAAA CHING!
And take your money
http://www.youtube.com/watch?v=7sei-eEjy4g
These stupid fuckers are gonna let obama and the democrats get away with whatever the fuck they want.
You are the stupid fucker if you think there is any difference between the democrats and the republicans.
Dumb ass.
did i say there was a difference douchebag? go fuck yourself.
Is there any description of the data feeds the HFT software consumes?
(I just had to answer 7 for CAPTCHA. I don't get 7 very often. I'm going to start charting it.)
Seriously, are you folks just catching on that the bots are skimming the market?
This has been painfully obvious for at least 3 years, and mildly obvious well before that,
Nice of you to finally get religion.
There's nothing you can do , unless you BAN co location and force some minimum display time on ALL quotes.
When it suits them , they can do it. SELECTNET instituted a rule years ago that said you could not cancel a posted bid/offer for at least 30 seconds. I think a one or 2 second rule for ALL market participants would level the field a bit. If you are not willing to keep a quote up for 2 seconds, then you are not providing a damn thing in terms of liquidity. You're an arb or a rebate humper.
I highly doubt the NYSE allows access to order flow. I suspect they have models based on their client books and orders. I further suspect they have models that involve the influence of trade behavior of other participants. That seems a natural progression of the quant world.
One last point...A large instituional fund has to appear like one of these jumbo ships. They can easily spot their activity and profit accordingly.
The fundamental problem is that most accept the idea of a low value-add intermediary garnering exceptional profits. It effectively amounts to a tax. The big problem we have is continually enabling financial institutions to game a simple process. They go out and create a massive pile of loans based on unrealistic, long-term assumptions and sloppy underwriting while collecting profits on the front end. The ultimate financial scam is creating such a mess so that you require further compensation to help clean it up.
Those are excellent points, I've been wondering to myself if there is a point where the speed advantage is so great that actual front running wouldn't provide any great gain in profit. The constant updating is to nail down the trading patterns of the big orders before the other bots, not out-skim pennies?
Great Post.
"Lastly and most importantly, this code has a limited shelf life, whose competitive advantage is diluted with each second it is outstanding." The limited shelf life will play itself out by crashing the entire market. Intuitively, this trading would make sense when real liquidity existed and HF/SLP trading was a small percentage of overall trading. But when you see most asset classes moving in a highly correlated fashion because the HF has grown it's broken.
Significant first mover front runner packet sniffing advantage was not mentioned. When markets no longer make sense, financial commentators turn into clowns trying to explain the market movements which appear completely random only it's an aggregate of HF algorithms. The robots have taken over markets, perhaps a good premise for Terminator 5-Rise of the market machines. And the new GS building is just missing an autobots decepticons logo at the top.
Tyler's comparison to Vegas is fitting, they also use attractive scantily clothed women to increase a man's risk taking behaviors as it's proven to work - this applies now to the attractive financial news reporters. Don't be tempted, bender from futurama will just take your loot in a world where fundamentals and technicals don't apply - investing has turned into speculating and gambling. Your money represents your labor and time, and you can't get any time back. The wealthy think about their legacy and passing wealth from one generation to the next I assure you, not much gambling unless for entertainment knowing they will lose it.
Want a real investment? Between 1998-2008, Wall Street investment firms, commercial banks, hedge funds, real estate companies and insurance companies gave $1.725 billion in political contributions & $3.4 billion on lobbyists. There are more than 5 lobbyists for each congress member. Then place your lobbyists and alumni in the administration and other important agencies (GS lobbyist Mark Patterson until April 11, 2008 now serves as chief of staff to Treasury Secretary Timothy Geithner). Then get $10 billion in bailout money and another $13 billion through the AIG conduit. Obama received the most democratic campaign contributions from 2007-2008 to the tune of $10.3m with Goldman Sachs, JP Morgan, Citigroup and UBS among Obama’s top five donors. I am not partisan, just following facts and more importantly the money since it works on both sides. It looks like we need campaign finance reform - down with the lobbyists who appear to be working to steal money from the public.
“Freedom of the individual, which we all idealize, can only be assured through good money” (Fritz Butschkau, 1968)
PBS's Jim Leher is now questioning Goldman Sachs. Any way to get that soundbite?
Apocalypse Now-
Currently sitting out the mayhem, but when I traded I would always get a confirmation screen that states your intended trade, and "Do you wish to proceed - Hit Enter".
This could be the seconds needed to packet sniff - possibly the interface is the review of the first order before confirming? Just conjecture but possible.
The government will do nothing because 401k's are going up and nobody but traders will complain.
Dude, the appropriate comparison is 13 billion of revenues for Q2. So 1 billion per quarter is well under 10% of total revenues. Using earnings is completely the wrong comparison.
Anon #9111
Look for an option to bypass that "warning." Or call CS. Or stop trading.
I would like to know the ratio of Goldman’s HFT’s where they were acted on by other market participants vs. the trades where they are acting on those same participants. This ratio would be very telling of whether Goldman is behaving primarily as a market maker to facilitate liquidity or as a market manipulator for fun and profit. Market makers, such as the classic DMM on the NYSE are acted on by other market participants for the majority of their trades. Their job is primarily to place limit orders inside the bid /ask spread to narrow the spread causing them to get hit or lifted by others. By contrast, market manipulators act on the markets with a high percentage of their trades.
This whole market manipulation is a conspiracy if I've ever seen one. We're all being taken in this Ponzi scheme!
GOOD NEWS!!! There is finally a great movie out about stock market manipulation, the SEC, and short selling called: "Stock Shock." Amazon has it or stockshockmovie.com has a trailer.