Paul Wilmott Lashes Out At HFT, Laments Groupthink And Bandwagoning Of The Binary Churners
Zero Hedge's view on the systemic threat that HFT poses to markets, a topic beaten to death on the binary pages of this website, is gaining ever more supporters each day. The latest to lament the lack of imagination, creativity, and work ethic, and to caution against the greed, bandwagoning and groupthink of the binary churning crew know as the HFT lobby is Paul Wilmott, in yet another scathing critique of all that is rotten with modern market structure. One would hope after 10 years of increasingly more vocal complaints and a few hundred more flash crashes, even the incompetent illiterates at the SEC will finally pay attention and put an end to this travesty.
From Paul Wilmott's blog:
"The truth is the high-frequency traders create volatility and create liquidity," said John Damgard, president of the Futures Industry Association.
What he apparently meant to say was that they reduce volatility, not create it. And this was just a slip of the tongue. As Sigmund Freud observed, such slips can reveal the reality.
I am concerned about High-frequency Trading (HFT) for two main reasons: Reduction of the relationship between value and price; Potential for positive feedback.
Markets exist to enable businesses to raise money, to expand, to thereby employ people, and so on, for the benefit of society. This only works if the market does a decent job of revealing the true value of a company via its share price. Otherwise the market is no different from a casino, a share price may as well be given by the spin of a roulette wheel. Fundamental analysis is supposed to do a similar job. You analyze a company, study its customers, research the management, etc., and come to a conclusion. But fundamental analysis is hard work.
Much easier is to run a data feed into a black box containing some algorithm, then optimize that algorithm. Your HFT black box doesn't care a hoot about the true value of a company, it only cares about what happens to the price over the next few seconds. You may spend a few months setting up this black box the first time, but thereafter you can apply it to a wide variety of markets with relatively little effort. Just re-optimize for that market. (And we know from how market players are compensated that the question of whether or not the result is long-term profitable is of second-order importance.) Not so with fundamental analysis, each market is different, each requiring the same weeks of hard work.
The above wouldn't matter if the HFT boys didn't dominate the market. Is it now 70% of trades on some exchanges are HFT trades?
Whenever you have a bandwagon, such as HFT now is, then you have the potential for systemic risk and feedback. Remember the last bandwagon…the credit products. How did that one turn out for the world economy?
How did we find ourselves in this place? Because the HFT boys cleverly played the "liquidity card" at the right time. The argument goes along these lines: "When Mom and Pop want to sell off some of their portfolio to fund their retirement then they'll get a better price if there's more liquidity. So liquidity is good." True! For the shares they've held onto for 20 years they will indeed get an extra cent. Whoohoo! Break out the champagne! So you mustn't argue with the liquidity card. The more the merrier, right? Well, no. The fact that during those 20 years their shares have lost 50% of their value thanks to the Great HFT Crash doesn't ever get mentioned. One extra cent versus a 50% fall? Hmmm.
Read the full thing here