Last night on 60 Minutes, Steve Kroft, finally brought mainstream America's attention to the topic that has been the primary scourge of efficient markets over the past 5 years: High Frequency Trading (not to be confused with Signing, aka RoboSigning). In Wall Street: The Speed Traders, Kroft spoke to such advocates of a robot parasite-free as Themis Trading's Joe Saluzzi and (now ex) Senator Ted Kaufman, as well as some other individuals who stand to benefit by computerized feedback loops making a mockery of price discovery, and which have now caused something like ten mini flash crashes in as many days, not counting the Flash Crash itself. Of course, the only defense the HFT lobby continues to use is that it provides liquidity. Which is why, once again falling back to scientific literature, this time a study by Andrei Kirilenko of the CFTC et al (which is also obviously biased as the CFTC, just as the SEC, stand to lose what last credibility they have if it is indeed discovered that it was precisely SEC and CFTC endorsed HFT, and not Waddell and Reed, that was the cause of the Flash Crash, something we refuted flatly last week), which demonstrates just how fallacious any claims that HFTs provide liquidity are. In a word: "HFTs traded over 1,455,000 contracts, accounting for almost a third of total trading volume on that day. Yet, net holdings of HFTs fluctuated around zero so rapidly that they rarely held more than 3,000 contracts long or short on that day." Said otherwise, Liquidity-to-Volume ratio: 0.00206%.
Full 60 Minutes:
And key section from Kirilenko et al say on the topic of HFT liquidity provisioning:
We find that on May 6, the 16 trading accounts that we classify as HFTs traded over 1,455,000 contracts, accounting for almost a third of total trading volume on that day. Yet, net holdings of HFTs fluctuated around zero so rapidly that they rarely held more than 3,000 contracts long or short on that day. Because net holdings of the HFTs were so small relative to the selling pressure from the Fundamental Sellers on May 6, the HFTs could not have prevented the fall in prices without dramatically altering their trading strategies.
We also find that HFTs did not change their trading behavior during the Flash Crash. On the three days prior to May 6, on May 6, as well as specifically during the period when the prices are rapidly going down, the HFTs seem to exhibit the same trading behavior. Namely, HFTs aggressively take liquidity from the market when prices were about to change and actively keep inventories near a target inventory level.
During the Flash Crash, the trading behavior of HFTs, appears to have exacerbated the downward move in prices. High Frequency Traders who initially bought contracts from Fundamental Sellers, proceeded to sell contracts and compete for liquidity with Fundamental Sellers. In addition, HFTs appeared to rapidly buy and contracts from one another many times, generating a “hot potato” effect before Opportunistic or Fundamental Buyers were attracted by the rapidly falling prices to step in and take these contracts off the market.
Can we finally move beyond the cheap, overused, and flat out flawed justification that HFT provides liquidity? he correct It does nothing of the sort, and since the operative word here is "churn" all HFTs do is merely concentrate (lack of) liquidity risk to a point where should HFTs decide to step away from the market suddenly and without regulatory recourse, as they did on May 6, the next step is a complete market collapse.