How To Fix High-Frequency Trading

Tyler Durden's picture

Submitted by Anthony Tassone of Green Key Technologies,

Solution to HFT Debate: Match Based On Price & Quality, Not Time.

The recent public outcry over high frequency trading is pointless. Solutions exist. Virtually every comparable market in the world uses them already.

But, some electronic exchanges may not willingly adopt them. Doing so may disrupt their current business model. The incentives are misaligned, and competitors or regulators may need to force the issue to see change. Luckily, the issue to be forced is far simpler than most think.

It’s time to add quality to the matching process. Over thousands of years, every naturally evolved market has headed this direction – from the ancient Greeks to It’s time for Wall Street to realize what they lost along the way, and how it can fix far more than just HFT.

In 500 BC, the Greeks were auctioning off war plunder, grain, livestock, even ‘wives’. Sellers set the price, tossing out descending ask prices until a bidder emerged or the price got too low.

2500 years later, little’s changed. The world’s financial exchanges auction livestock and grain, just the same. They just added stocks and bonds instead of wives. But, the biggest real change came when the order books went electronic. The programmers who created these systems copied everything they understood from the auctions of yore, in Greece, on the streets of lower Manhattan, and in the massive exchanges that emerged from them. But, the auctioneer cannot scale to serve millions of customer around the world, so they replaced him with a “matching algorithm”, the piece of software that selects buyers and sellers.

It is that bit of logic at the heart of a national debate on the merits of high frequency trading. It is that bit of logic that lost something critically important. HFT traders are not sidestepping rules to gain advantage. Finding alpha in information advantages is exactly what they’re paid to do. And most, even among HFT firms, do so within the rules set by the exchanges. Rules set by the design of the matching engine. I know because I was once one of these traders.

The big problem in the electronic exchanges is not agents searching for inefficiencies. The problem is structural. It’s that the matching engine rewards speed and encourages the proliferation of order types that act as trap doors. That’s because when those programmers copied the auctions they saw, they lost the implicit decisions – the ones made by auctioneers deciding who to do business with or floor traders deciding which yelled bid to acknowledge.

Those traders weren’t just concerned with speed; they were making a judgment on quality too. Low latency trading is complex. Network, hardware and software optimizations -- all designed to reduce the time to send messages. Time is absolutely money. But only because the exchanges timestamp orders and rank them in the order book according to price AND time. They incentivize being at the front of the line.

Understanding where your orders are queued in relation to all the others at the same price is an advantage. It’s like being first in line to get a box that might have gold or might have a grenade. Better if there’s ten other guys behind you willing to take the box after you peek inside. The guy at the end of the line is at a significant disadvantage, he has no one left to transfer the risk to. Low latency trading is all about being first so you have the option to “scratch”, or exit for little or no loss in an adverse movement, and to profit from favorable price action.

Exchanges operating time based matching engines have inspired the low latency arms race. And they’ve been profiting from it for almost 20 years. Over time it’s grown into a tangled web of liquidity pools, data center ‘cross connects’, and low latency microwave towers. Transaction fees collected from low latency trading firms are substantial and have the exchanges bending over backwards to support the industry.

What began as a simple and logical idea – the only conceivable ‘fair’ way to do things when computers had 4K of memory and couldn’t do all that much actual computation -- ranking participants as first-in-first- out, has devolved into a technological war that dilutes the concept of providing liquidity. Instead it creates a low concentration liquidity vacuum where volume results not from the exchange of risk but from mere tinkering with the rules to see what loopholes can be found.

What if one more measure could be added that would specifically discourage that kind of tinkering? It’s been done before, many times over.

eBay is the most successful auction in the history of mankind, with over 300 million users. But, does time play much role? Not really. In fact, time extends as late players come to the bidding. Instead, eBay operates on price and quality.

Quality is determined by user feedback. Participants rate each other’s behavior, like the ability to honor terms and deliver the goods promised, failure to pay for an item won, etc. It was a simple upgrade, meant to assuage the fear of doing business with strangers a world away. But, it put all participants on equal footing, punishing those who would game the system by excluding them the next time.

The world’s electronic exchanges need to take a page from eBay’s playbook and start measuring the quality of their participant’s liquidity and factoring that into the matching process, rather than how few microseconds it took them to submit it. And, it can be completely automated, using data like the a user’s historical accept/decline ratio, or quotes/fill ratio, to determine where in the order book queue a participant is placed. Orders can then be ranked and sorted by price and quality, i.e… the likelihood that a participant will actually stand firm on the price submitted thereby creating an order book with very ‘sticky’ liquidity gravitating toward the top of the book.

Floor brokers and floor traders operated just like this, with a price+quality matching algorithm, albeit in their heads. The best price was always honored. But, given a choice of bidders, if the broker didn’t believe you would honor your quote someone else would get the trade and you’d be sent to the back of the proverbial queue. Bust a trade enough times, and even your highest prices wouldn’t reliably win.

Voice brokered OTC markets implicitly work like this today too. Traders who frequently ‘flake’, or back away from quotes, don’t get a phone call the next time a deal is available to be done. This encourages integrity among participants, something that was not transferred to the electronic order books.

Quality-based matching is the next logical step for the global electronic marketplaces looking to restore the depth and concentration of their liquidity in the wake of the national HFT debate. In doing so the regulators and exchanges will reward those for providing a real service, punish those who attempt to
manipulate the order book, and help restore market confidence.

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ZeroPower's picture

Except this MAY OR MAY NOT go against the whole 'best px obligation' i.e. NBBO coming before all other factors.

Deathrips's picture

Cut the power to the north east for a week?


Just a guess..



mvsjcl's picture

It's not HFTs that need fixing. It's the whole market.

Publicus's picture

Easy, tax per order, regardless of it's canceled or not. Also, tax excessive quotes.

I Write Code's picture

Tax per trade, per order, also tax the cancellation.  Tax everything!  Suddenly we all luvs us some taxes!  Actually it's probably not necessary to do them all, any one or two should do.

free_as_in_beer's picture

it's a consumption tax, I thought that was the good kind, right?

CPL's picture

Nope, close though.  Poorly funded maintenance on nuclear facilities on the entire east coast in a cascading failure across multiple locations with increased power usage on an aging power infrastructure for 100 million people.  Radcon has been flashing for a couple of days as something undisclosed happened.

So it's a good news/bad news situation.  The banks and their HFT's farms will be able to make as much money and be as powerful as they like.  They just had to trade it for the remaining time they've got left on earth.  Seems fair enough I think.  Everyone gets what they believe is important on paper, because that's the type of people they are.  They'll be so rich and powerful, for a couple of months.

Hope they enjoy it.

NoDebt's picture


And would you want the exchanges, the same ones who encouraged and aided HFT to now have ANOTHER card to discriminate against various groups?  Namely, the subjective "quality" characteristic?  Could you imagine the games they could play with TWO variables left to their discretion instead of just one?

No thanks.  Let's just do the IEX model and be done with it.  A couple miles of fiber-optic cable coiled in a box to introduce a few ms of latency sounds a lot simpler and fairer.

Everyman's picture

We already know where the "towers" and the cable is buried and it is well know.  Take out the network.

Frilton Miedman's picture

I'm with you on IEX, however, it should be an option, not a mandate.

Give the investor/trader the choice, if HFT's truly don't benefit the average trader to the extent they claim (which I suspect), the market will decide and IEX will reign.


giggler321's picture

.. ‹(•¿•)› Great Seller, perFECT, A+++++++++, fast ship, as described, ‹(•¿•)›

It used to work for ebay until it didnt

Metalredneck's picture

( •_•)
?\ \___( *•*)
_?? _?? \ \

Racer's picture

A start would be to apply the rules currently in place...

If you cancel thousands and thousands of trades and allow few to execute, then the firm should be banned at least from trading, and criminal proceedings issued.

But that won't happen because law breaking is allowed for the rich


Par Contre's picture

How about simply charging a fee for cancellations when a trader's cancellation / execution ratio goes above . . . say 100%

Or maybe fine tune that ratio by excluding cancelled orders that were in the system for at leasst . . . say 10 minutes.

Frilton Miedman's picture

Completely agree, quote stuffing & submitting orders without execution is a blatant abuse, the ONLY reason it's done is to manipulate price via head fakes, suckering regular traders into a bad bet to the benefit of counter-parties.

This is a concern I have with TBTF HFT's, they can move a price to the benefit of their prop desks for more lucrative entry or exit of positions.


Atomizer's picture

Plant a computer virus.

Ghordius's picture

those exchanges are privately owned but hold a public function, with the state monitoring

either you introduce more competition (I'll go to the one where HFT is not even allowed) among the exchanges or you make the system transparent and auditable by everybody


de facto HFT decreases liquidity and increases expert, insider manipulation by stretching time, making a deep, liquid marked a shallow, near-infinite puddle

there are lots of different methods that would fix the problem, including ring calls, restriction in trading times, allotment methods, etc.

unfortunately, the private owners of the exchanges... 

ebworthen's picture

This ought to do it; one side is buy, the other sell, requires human hand.

Put your order specifics in the computer, but to execute you must use this:

Archduke's picture

reg nms and most attempts at implementing ideal markets
were trying to give the same chance at a fair price to the little guy.

reputation based systems, ebay is a fine example, will naturally
skew towards long established and frequently active players,
in short, recreating the coterie of institutionnal rectum raping.

that's what happened to ebay. professionnal vendors screw you,
but statistically few enough bother to down rate them compared
to the volume of back scratching inter-dealing.

the only way to have a just system, is not to depend on subjective
metrics, like reputation, but objective automatic measures.
this means skin in the game. transaction fees, cancellatiom fees,
failure to deliver penalties, etc.

hit it where it hurts.
the wallet.

Frilton Miedman's picture

Agree, and to add, HFT's also have the ability to remove liquidity at specified times.

Like crop reports, energy - inventory reports & earnings, disabling regular traders to act until the bulk of price movent has subsided.

There's also been reports of websites servors that publish these reports being hit with excess traffic, like a DNS attack, slowing the flow of information temporarily.


assistedliving's picture

Quality-based matching  is subjective.  

Besides, who will determine said quality and how long will it take to make such a determination when ur talking nanoseconds.


Hate to say it but Tobin Tax; 10% of all funds derived therefrom deposited into an account to prosecute violations

Racer's picture


New Rome Ohio, a small town with only 60 residents and 14 police officers, raises nearly $400,000 annually from speeding tickets."

See how easy it is to uphold the law if they actually want to!

Colonel Walter E Kurtz's picture

It was finally shut down a decade ago after the corruption was exposed and the State stepped in. 

ebworthen's picture

It's almost as if someone was talking their book. 

Hmm...let's see...Green Key Technologies:

Oh yeah, those guys shootin' the shit and enjoying drinks care about you and your money.

I wish you luck in your endeavor, but it is voice trading over the phone.

HFT is nanosecond Jabberwocky between computers.

By all means, restore the human dimension.

Everyman's picture

Talk about an idiot and making things WAY too complicated.  All you have to do is three things:

1.)  Minimum bid price hold  2-5 seconds

2.)  ALL BIDS MUST BE HONORED (It is already against the law to put in a bid or ask, and then not go through with the bid)  Machines do not have to follow this rule, but a HUMAN TRADER MUST for some stupid reason  NO DKing the bids,  They are stuck with it

3.) Invoke administrative penalty with respect to the size of the crime.  $28 Billion, make it a $5 Billion fine and 20 years.  Make it stick ( I know pipe dreams at best)





Watson's picture

Your 1.: Suggest 0.5 seconds is enough provided your 2. is enforced.

Your 3.: Suggest fine is 3 times disgorgement of profit, minimum USD 20,000.
Since the HFT are shaving cents, this quickly puts them out of business.


I Write Code's picture

How to fix HFT?  With an axe.

I don't know what you are talking about regarding "quality" here, and I suspect you don't know what you are talking about either, for sure you haven't *said* what it is you are talking about.

It is indeed easy to fix the HFT, as almost every knows, in either or both of two ways.  You can take out the HF, or you can take out the T.  That is, you can run the market synchronously, pool all incoming orders for say one minute at a time, then match the book randomly.  Is a minute too slow, do I have to sit at my etrade page for a full minute waiting for confirmation?  Well, that might be an interesting discussion, is this a financial market or a video game?  I might argue for once an hour, or once a day.  That's a lot slower than traditional markets, but I'm not sure if it's a problem.  Anyway, let's go for a minute right now, but even one second would probably kill the current HFT.  Or you can take out the T by putting a transaction cost on any transfer, a dollar per order and a penny a share might just do it.  And the proceeds can be used to build a hospital for sub-normal children somewhere around midtown.

"Quality" is a factor on eBay because of the rampant fulfillment fraud, or threat thereof, which afaik is not currently a big factor on Wall Street, so I really, truly have no idea what you have in mind in this discussion.

Frilton Miedman's picture

Mark Cuban raises an interesting point regarding your "one minute" wait time.

He's sure it isn't solely HFT's that have tightened bid/ask and shortened execution time, but electronic trading overall.

Allowing IEX to open would put that theory to the test.



Inthemix96's picture

You want to fix HFT?

Ban the fucking thing, imprison and execute those who partake in the fraud and stop fucking printing money from thin air.

Any questions?


Atomizer's picture

Again, plant a computer virus. You collect the entire IP gang in one scoop. Interlinking Proxies are all connected. Unfortunately, the dumbfucks in the NSA haven’t mapped that solution into an operation.  Bye, Bye cheating Fed primary dealers. Watch the wall of pain retract in Fed direction.


Operation: Hand in the cookie jar. Get to work you useless NSA cunts..


NSA inspirational charter song..

Ministry - Useless

nostromo17's picture

The fix as I have said before is to delay the signals to the slowest signal. No speed advantage. No HFT. "Level Playing field"

Good luck with that. Too much hinges on manipulating the market and giving large financial institutions the advantage they want.

Pretty much a lost cause without overthrowing the government and putting in a government that intends to restructure everything to benefit

the citizens of the country and not oligarchic interests.

The irony is that the rigged market will eventually collapse as inefficient and destructive forces control the market mechanism such that

the market cannot promote innovation or progress but instead promotes the rot.



Frilton Miedman's picture

This is true, disabling the financial sector's ability to manipulate markets would reap disastrous consequences to the K st political bribery sector...lost jobs...lost revenues... an affront to capitalism, the horror, the horror...

OC Sure's picture



"competitors, [NOT] regulators, may need to force the issue to see change"

There, fix it.


nanex's picture

Here's how to add quality to quotes using existing infrastructure and regulations (really!)


Coexisting without Colocating (



Frilton Miedman's picture

Nanex = God on this topic

disabledvet's picture

You still have to have the liquidity! Your "dark pools" can dry up to nothing....and in fact they are the Federal Government monetizes the debt and moonshots the price of treasuries (while yields plunge.)

Simply put "no matter how fancy your math" (or your implied "master of the universe" bullshit that you think of yourself as) "never get in the way of a Government trying to snuff out recovery for fear of inflation."

So indeed... prices for GOODS rise, but prices for LABOR collapses and "mass defaults are the result."

Sorry folks but Wall Street cooked its own goose this time. "Too big to Fail" fails WALL STREET as you get a compression trade and the "recovery we never had" goes to shit.

This has a happened a millions time before I might add....usually involving "the sudden bankruptcy of New York City itself."

Once public pensions start getting annihilated "then you can say hello to Special Operations Command." I recommend keeping all pets fenced in and on a leash.

"Once the cats and dogs start disappearing" then you'll know "the war effort has now arrived into your neighborhood." They're the real one percent. God help us all "once they get their orders."

Frilton Miedman's picture

I find it strange the Fed traditionally uses inflation as a measure of economic growth, yet relatively ignores the cause of inflation - consumption/demand, (income/credit/debt) & supply.

I'll get flamed for saying this, but to her credit, Yellen has broken the taboo and mentioned wage growth as a parameter in her policy.

Friedman was of the belief that nominal income should be a higher priority over employment.


Spungo's picture

Taxes seem like a bad idea. The government would appoint someone like Maxine Water to write the tax rules. 

Just make it so bid or ask is held for 5 seconds. After 5 seconds, the order may be cancelled.

Watson's picture

Actually, 0.5 seconds would do.
Just needs to be a figure comparable to a human reaction time.

Joebloinvestor's picture

When quality vs profit, guess who wins?

withglee's picture

Quality is determined by user feedback.


Quality is subjective. Bad idea.

The fix is trivial. Delay each transaction a random number of seconds. That removes the timing considerations and leaves the trading objectives.

BeetleBailey's picture


....someone sweep up....

saints51's picture

To the author of the article: ummmm.....No!!! I am not going to waste my time pointing the holes in his solution.

Downtoolong's picture

The article makes some good points, but, I’m reluctant to hold eBay out as a shining example of how things should be done. eBay stumbled and bumbled for years trying to force the auction protocol down people’s throats before coming to realize that auctions are not the best suited protocol for many of the items trading on their exchange. Frankly, auctions are only well suited to sales of unique and rare items where there is essentially one seller and many prospective buyers. Furthermore, electronic auctions are still vulnerable to a speed advantage. The final matching of a buyer and seller on eBay auctions usually occurs in the last few seconds (aka sniping) with early bidders only helping to set the stage for the final competition.

An auction protocol often frustrates the hell out of buyers and sellers who are being forced to use it for generic and newly manufactured products (do I really need to wait a week to outbid others by $0.25 on a $6 item that fifteen other top sellers are auctioning off too?). That’s one reason eBay eventually introduced the “Buy It Now” (fixed price), “Second Chance Offer”, and “Make An Offer” protocols. It’s as if they were groping for a better solution and willing to try just about anything and everything that came to mind.

A bilateral market (albeit a fair one) is still much better suited for securities or any product where there are many buyers and sellers of the same generic item, and where a buyer one moment can become a seller the next.

What has been lost in the new HFT dominated exchanges is a participant that is truly dedicated to a market making role and following a standard protocol. That might be defined generally as an agent who aims to bring buyers and sellers together while engaging in as few transactions and as little volume as possible. If you think about it, these are two characteristics of the classic floor specialists. The modern HFT algo acts more like a classic floor trader who is hell bent on participating in as many trades as possible and scalping as much money as possible on each trade. Worse yet, no one, not even other algos can see how any algo is behaving or what protocol it is using at a given moment. Consequently, there is absolutely no means whatsoever of guaranteeing a fair protocol on the exchange unless a true market making HFT steps in and does it.      



NickVegas's picture

"Quality is determined by user feedback."


I don't buy this premise. Trading is agnostic, money is money. I agree, bad players could be segregated, but that is only one approach and doesn't fit with free trade. If the trade agreement between parties is honored, no one cares about past transgressions. That is a free market. 

novictim's picture

The solution is charging a tax of a nickle per trade.

Carl Popper's picture

And make a little money for the government too.   There are several good solutions.   We can be sure one of them will be tried after everythng else is tried first.

withglee's picture

Use of taxes to discipline is wrong. Taxes are for providing services. The idea of using taxes for discipline is widespread in our govenment and it "all" needs to be extinguished!

Umh's picture

Fund the SEC with the tax. While I thing using taxes to punish people is wrong the Supreme Courts and the President don't seem to have a problem with it.

withglee's picture

The SEC has already discovered a new funding source. They look the other way while those they are to regulate rape and pillage. They then step in and take 10% of that pillage in the form of fines. Discovering this new mother-lode, they repeat the process with ever bigger numbers. As this system has sustained itself in a corrupt fashion for a long time, it is obvious ... we could do just fine without the SEC altogether. We could do better actually. Rather than having the SEC working against us ... we wouldn't have the load of the SEC at all. We would have caveat emptor.

And when you see this naturally collapses into caveat emptor, you see it is in the best interest of the SEC and those they regulate to keep this charade going, trying not to kill their host in the process. The SEC must keep us thinking they are there to protect us ... and so must those they are protecting us from. It would be awful for us to find out we are perfectly capable of protecting ourselves.