Whoa, A Glitch In The HFT

Tyler Durden's picture

Over the past week everyone seems to have jumped on the HFT bandwagon: people who know nothing about the issue, as well as tested industry veterans, all of a sudden are chiming in, with some, like quant legend Paul Wilmott debating the potential dangers of HFT, while others such as respected bloggers including Eric Falkenstein and John Hempton saying it is too much noise over nothing. Both sides of the debate are respected, as, if nothing else it forces further clarity on this most secretive topic.

While long-time Zero Hedge readers have known our position on the issue since early April, the basis of our perspective has always been a (very relevant) question. Which is why it is useful to hear those who are directly involved in not only the HFT market, and not only were instrumental in developing the HFT architecture, but have worked for the largest HFT option trading desk in the US, that of Citadel (and likely were sitting one desk away from the likes of Misha Malyshev, made infamous by his involvement in the Aleynikov-GS scandal). We present to you Michael Durbin, who tips his cards in a piece by Reuters' Matt Goldstein who broke the Aleynikov scandal.

Durbin says it’s reasonable to wonder whether Wall Street’s unfettered embrace of algorithmic automated trading could be setting the stage for a future meltdown.

“You have multiple HFT trading firms and sometimes their agendas are complementary and sometimes they’re not,” explains Durbin, director of HFT research with Blue Capital Group, a small Chicago-based options trading firm.

“There could be a time where these HFT programs unintentionally collaborate and you have a two- or three-minute period where the markets are going crazy. Then other traders respond to it and it simply gets out of control.”

What Durbin’s talking about is the dreaded contagion effect, in which a bad trade or a rogue algorithm misfires — sparking copycat sell orders at other high frequency desks.

A little on Durbin's background:

Durbin certainly has the bona fides to speak to the potential risk. Before joining Blue Capital, he worked for two years at Citadel Investment Group, constructing the hedge fund’s high frequency trading desk for stock options — the largest in the business.

Of course, if Durbin is right and the regulators finally do something about the inherent risk, the revenue streams that would be cut would reach into the tens of billions of dollars. It is not surprising that so many lay and otherwise voices have sprung up in defense of HFT, some of which have an agenda, others which speak purely out of naivete.

Big players in the field like Goldman Sachs, Citadel Investment Group, Getco and Interactive Brokers claim they’re mainly providing liquidity — making it easier for other traders, institutions and investors to get in and out of positions. The vast majority of high frequency traders would have you believe they are nothing more than service providers.

Yet it’s fair to question the necessity of the service that high frequency traders say they are providing. Much of the liquidity high frequency traders are adding to the mix is simply to match trades created by other high frequency traders.

Reread the last sentence carefully - it basically encapsulates the whole argument against HFT, and against B/Ds who use it and generate massive returns year over year: does anyone wonder why Medallion (which aside from being investigated by the SEC will likely be annihilated if Flash trading is banned) generates 50-80% returns year over year, while RIEF has gone from managing $27.8 billion to $5.4 billion in under 2 years. In principle this is like Goldman seeing the order flow on Sigma X, matching it in dark liquidity and offsetting the other side of the just executed trade on the NYSE without anyone else having a clue as to what drove the stock price materially up or down as there was nothing at all on Level 2 to suggest a supply/demand disbalance.

As this topic picks up much more steam, Zero Hedge would like to reinforce Goldstein's conclusion from his article.

That’s enough for me. It’s high time for the Securities and Exchange Commission, the Commodity Futures Trading Commission and overseas securities regulators to start working together now to assess the potential systemic risks posed by high frequency trading before a problem occurs.

Again, it’s premature for anyone to suggest that regulators either prohibit or severely restrict high frequency trading. But let’s be clear what we’re talking about here — this is mainly trading for trading’s sake. High frequency trading is simply another way for Wall Street firms and hedge fund to make money.

There’s nothing inherently wrong with profit-driven trading. But if high frequency trading isn’t critical to keeping the markets humming, there should be nothing stopping regulators from putting a review of this strategy at the top of their agendas.

We hope that this time, unlike the Flash case, the SEC won't wait until a senator actually reminds it to do its bloody job.

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deadhead's picture

You're an animal today TD....nice action on HFT and congrats on the escalation of the flash order mess; ZH deserves MUCHO credit.

ZH went into "favorites" first on my brand spanking new, green shoot stimulating, deflationary computer special at my local wally mart, a compaq for 298 bucks.

Anonymous's picture

please clear the confusion about HFT and Flash order. Are these two differnt animals? Averge person will think its one and same thing.

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sohbetme's picture

I like your ideas and thoughts. While chat and sohbet with my friends talking about it.

whacked's picture

Fisrt on the ZH Christmas wish list...


"We hope that this time, unlike the Flash case, the SEC won't wait until a senator actually reminds it to do its bloody job."


You are kidding me .. right?

disreputable cousin's picture

Unfortunately, the SEC is like a tame bunny in a big cage. The best it can do is a few card tricks if you let it out. Then back to the sawdust, newspaper layers, and carrots. Plus a few pellets of it's own making that is doesn't appear to notice.

The prostitutes bought and paid for by  HFT money wouldn't have been called out if even small restrictions on HFT didn't cost big big big money. Any other explanation defies common sense.

jedwards's picture

I posted this question in the last post, but how does GS ensure it's not trading with itself, for example either a different arm of GS or another batch of computers running an algo?  Is there something that specifically prohibits this from occurring?

Do you think human traders with inside information in places like GS, etc, know what kind of patterns of trades to make that would cause their own program trading operations to start juicing the markets either long or short?  I guess that's a naive question, but I need to ask it anyway.

Tyler Durden's picture

internal order matching happens all the time in dark pools. sigma x estimates are for 50%

jedwards's picture

is that legal?  It seems like if I sold something from my Charles Schaub account and bought it from my IB account that the SEC would be pretty pissed at me.

Anonymous's picture

Legal ? It depends on how much you can pay.

Alexander Supertramp's picture

See Rule 17A-7: "Exemption of Certain Purchase or Sale Transactions Between an Investment Company and Certain Affiliaited Persons Thereof".  The full spread capture to be had in dark pools is a boon, but you don't need to access one to do it "legally".


Anonymous's picture

I think the knowledge of trading with themsleves actually makes the whole thing worse. They just split the prop. desks into two groups and then trade it back and forth. As long as the desired result is achieved...namely "up" they need not worry about it. I understand what you are saying but I think they count on this .


Anonymous's picture

BTW forgot to add that the end result for them is still a need to off-load these shares to a patsy....It's only successful if they are able to do it.


jedwards's picture

That's what Mass Accumulation Days and Mass Distribution Days are for.  They buy up the markets, and suck in the buyers, and then distribute it over the course of a couple of days.

Anonymous's picture

I don't disagree but that is over-simplifying it with regards to this issue.


jedwards's picture

I'm a newbie with all this so the only things I understand are very simple, unsophisticated concepts...

deadhead's picture

all of us were new at one time.  i'll tell you that a guy like me who worked in financial services for 30+ years often feels like a newbie, believe me.

just keep reading and make sure your reading material covers lots of sources.


Anonymous's picture

Yes....agree 100% If you don't learn something everyday you are not trying hard enough.

Miles Kendig's picture

Diversity of opinion and observation is indeed the lifeblood to the interested observer or participant of any endeavor.

Larry Doyle's picture

Kudos to ZH and Joe Saluzzi for exposing this trading activity. For purposes of further elevating the dialogue, I will interview Mr. Saluzzi this Sunday evening, August 2nd 8-9pm. 


Anonymous's picture

Saluzzi has no clue what he is talking about. Be responsible and ask him for proof. He's already backing down from claims he made two weeks ago on TV.

Anonymous's picture


Karl Denninger on HFT action today in this video.



Anonymous's picture

Denninger is explaining the TRIN feeds error this morning on his post today. The algos seem to have fed on themselves after the feeds got back on track.

Anonymous's picture

I notice the bots only bought, and ignored the sell signal of the trin...

Anonymous's picture

long time reader's since april?

4 months's is long term? Shhhh don't tell that to the MSM


VegasBD's picture

Great stuff dude. Thanx for never sleeping. We appreciate it.

Monoki's picture

This somewhat confirms my concern:  that at times, HFT adds (perhaps unintentially) to a move's momentum, exacerbating that move that would have been less profound had that move been based soley on 'real' demand.  Thus, it is conceivable that this current leg of the rally (since the beginning of July) is multiplied by HFT, and had it been based soley on demand for stock, be it on heightened expectations or second derivative improvements, the uptrend might have been less than the 110 SPX points from 870 in July.  And if that can be the case, then so too on the downside:  any downtrend can be exacerbated by HFT riding the downward momentum -- OR -- the lack of liquidity on the downside will result in the same exacerbated downside.

Think about it, and keep on the topic that HFT, at times, can add to momentum.

Keep pressing,

Chris Monoki

silencedogood's picture

Jedwards,  Perhaps with HFT computers being able to be spoofed..can a hacker cause a very sophisticated DDOS by causing a major HFT indicator to be faked or manipulated to cause the HFT computers to buy or sell on cue?  Playing devils advocate...how hard would it be to find out the metrics said HFT's monitor and crack those machines and feed them fake data so i can benefit from the resulting HFT actions?  Better yet, with wired news NYSE data...perhaps this has already occured.  Might be another avenue to investigate for Tyler and Marla....


-Silence Dogood



Anonymous's picture

Apocalypse Now-

Dark Pools are like secret societies, designed to cloak evil. Who likes to swim in a dark pool, dead bodies, crocodiles, and sharks could be lurking below.

I prefer swimming in transparent aqua marine pools, don't you?

crzyhun's picture

If LTCM nearly wrecked us, what will it be like one second after HFT collapses us? Termination!

We are long too many Rhodes scholars, I'm afraid. These folks have no clue what they are doing.

Anonymous's picture

The sheer volume they put through before people can even blink is staggering, October 1987 in less than 1 second anyone?

Anonymous's picture

runaway nuclear reaction

Anonymous's picture

spitzer right now on CNBC sounds negative on HFT.
Resolution-"forbid it or give it to everyone. We don't enough yet."

Anonymous's picture

spitzer right now on CNBC sounds negative on HFT.
Resolution-"forbid it or give it to everyone. We don't know enough yet."

Anonymous's picture


Eagle's picture

Deceitful, evil , greedy men.  A pox on all of them.

Anonymous's picture

Anybody really think that a bunch of bought and paid for politicians are gonna put a stop to the only thing holding up the market and by extension US society? Not on my watch, mister.

bpj's picture

See the movie, War Games.

Anonymous's picture

There are two schools of thought when it comes to Rhodes Scholars (and experts, and polticians and decision makers)...

Either they know what they are doing, and are incredibly good at it.

Or they are terribly incompetent imbeciles.

The one you are more likely to agree with will depend on your opinion of your fellow man, and your outlook for humanity.

For example, if you are optimistic, with hope for your fellow man, they are just incompetent fools.

But if you are a bit more cynical, then, these Rhodes Scholars and others like them have been trained to not only undermine society but do a great job of making look like their intent is the opposite! The ultimate wolve in sheeps clothing, really!

Anonymous's picture

"depend on your opinion of your fellow man,"

Nah...just my view of what working for the Gubmint does to good people.

Anonymous's picture

The Three Triggers for the Global Gold Bubble and A 'time bomb' for world wheat crop - Los Angeles Times , these 2 things are monumental to the equities markets and their sustainability .

The Three Triggers for the Global Gold Bubble


Peter Krauth writes: As you review your investment portfolio to size up your current exposure to gold, keep one key point in mind: When it comes to profits, there's no rush like a speculative gold rush.

if you were a Long term 401K investor and been in the market since 1998 , you have not made a dime , and in fact if you factor in wage stagflation , which is now really amplified with massive unemployment and no end in sight making higher wage level even more unsustainable , and cost of living increases over the past 10 years , the Inflation they are saying is under control is a big Fat LIE !!!!!!!!!!!!!!

Inflationary fears are on the march the world over. And most of those worries are due to the trillions of dollars in stimulus spending the world's central bankers have engineered. Those worries about the pressure from rising prices are destined to cause the next big asset bubble.

And the color of this particular bubble will be gold.

A 'time bomb' for world wheat crop - Los Angeles Times , this must be stopped before any health care or Cap and Trade Bill can be considered because they need better than average economic conditions to prevail and this threatens that !!!!!!!!!!!!!!!!!!!

A 'time bomb' for world wheat crop - Los Angeles Times
Jun 14, 2009 ... Crop scientists fear the Ug99 fungus could wipe out more than 80% of worldwide wheat crops as it spreads .... Los Angeles Times. Science ...
articles.latimes.com/2009/jun/14/science/sci-wheat-rust14 - Cached - Similar
Ug99 fungus and spurt in agriculture ETFs | 17 June 2009 | www ...
Jun 17, 2009 ... Crop scientists fear the Ug99 fungus could wipe out more than 80% of ... Karen Kaplan for The Los Angeles Times reports that the wind will ...

Anonymous's picture

Did anyone just see spitzer on fm? I think he knows whats going on.

Anonymous's picture

"Ben Townson of New York-based BlackBox Group, which uses high-frequency strategies and specializes in algorithmic trading, says “natural abilities and skills” determine who makes money, not computers.

“You can throw a lot of money at technology, but if you don’t take the time to study your trades, it doesn’t matter,” Townson said. “We’ve built a racecar that is optimized for driving fast. Is that an advantage? Yes. Is it an unfair advantage? No.” "

A person drives the fast 'car' in the end and can make mistakes and only kills himself or a few others

In HFT it is the computer that goes fast in the 'car' not the person and can make the mistakes faster than people can blink and can do a infinite amount of damage in just a split second

Chumly's picture


Having experienced a front tire blow out at 80 MPH, one would certainly understand the "men's hearts wil fail them" aspect to this mother of all wicked schemes.

Hank Rearden's picture

I applaud Tyler for pointing out that there are many other HFT desks other than GS. I think that has been a little overplayed by some.


Is a "rogue algorithm" any different than a "rogue trader". I would think it would be easier to control an algorithm's behavior than a human's. Circuit breakers and sanity checks have long been used to prevent the computers from going "mad". As far as copy cat orders are concerned, a lot of traders are essentially copy cat traders. The trend is your friend, right? Not unlike a big (human) order coming into the market and seeing a spike that immediately reverts. Anything that commits capital to a trade is real. The market is what it is. How is HFT any different than a scalper looking to take 1 point out of the e-mini, except that they are faster and are looking for 1 tick. Are scalpers the next whipping boy?

Anonymous's picture

"How is HFT any different than a scalper looking to take 1 point out of the e-mini, " ___ The scalper constitutes small percentage of overall trading volume. HFT constitutes 70% of all trading volume
Scalper is doing it legally. HFT is doing it illegally

"Circuit breakers and sanity checks have long been used to prevent the computers from going "mad"." _________ Why would there be a circuit breaker if the algorithm is PROFITING from the move? What if all of the 70% HFT volume pushes the market down and since market keeps going down they keep making money... Before you know it the market is down 10% in one day.
Oh wait, that already happened in 2008

Anonymous's picture

"HFT is doing it illegally"

Show me some proof sir. That's a bold claim. There are hundreds of HFT strategies at dozens of banks/hedge funds/prop firms. Surely they are not all engaged in illegal activities.

Anonymous's picture

Renaissance is a Ponzi Scheme? They show 50% returns in Medallion to attract more capital but show losses in other funds