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Improving Market Quality

Better Market Quality Metrics for Retail and Institutional Investors

Market competition has been of tremendous benefit to investors large and small.The introduction of new stock trading platforms have spurred pricing incentives and contributed to plummeting trading costs.It also created opportunities for some of the brightest technologists to develop innovative and highly efficient trading tools that have helped investors keep more money in their retirement accounts.These tools enable responsible intermediaries using HFT technologies to provide continuous quotes and facilitate markets quickly and at a small fraction of the cost of traditional stock trade commission rates.

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Industry Support for the Role of HFT in Promoting Better Market Quality

“CFA Institute is broadly supportive of the existing market structure, with the majority of empirical research supporting the impression that explicit trading costs are at historically low levels and displayed liquidity is at historically high levels. This market structure has been achieved in large part by technological developments and marketplace competition enabled by Reg. NMS.”
Sviatoslav Rosov, CFA Institute

“We believe much of the public concern over “high frequency trading” is misplaced and believes such activity, appropriately examined, contributes to a more efficient market that benefits all investors.”
Gus Sauter, Vanguard’s Retired Chief Investment Officer

“…the positive overall effects of HFT on market quality are well-documented and appear by now pretty robust.”
Evangelos Benos, the Bank of England

““Based on the vast majority of the empirical work to date, HFT and automated, competing trading venues have substantially improved market liquidity and reduced trading costs for all investors.  Share prices are almost surely higher as a result of this reduction in trading costs, benefiting long-term investors.  Higher share prices also have favorable implications for firms’ cost of equity capital.  With a lower cost of capital, firms are likely to invest more, with commensurate increases in GDP and other measures of economic activity.”
Charles Jones, Columbia University professor, study analyzing 30 papers on HFT

“Increased low-latency activity improves traditional market quality measures—decreasing spreads, increasing displayed depth in the limit order book, and lowering short-term volatility.
Professors Joel Hasbrouck and Gideon Saar

“…algorithmic trading, including HFT, enhances market quality and efficiency by increasing liquidity, lowering bid-ask spreads, facilitating price discovery and lowering the volatility of the prices for financial assets.”
Dr. Stephen Kirchner, economist, Australian Financial Markets Association

“Electronic trading is good for trading, good for transparency and good for regulatory compliance.”
Marshall Bailey, Paris-based president of the ACI Financial Markets Association

Automated trading has come to play a crucial role in fostering liquidity and the efficiency of the price discovery process in inter-dealer U.S. Treasury markets.
Federal Reserve Bank of New York’s Treasury Market Practices Group

“For many markets, automated trading brings trading liquidity, broader market access, enhanced transparency and greater competition. Such features are all the more beneficial in the wake of departing bank liquidity.”
J. Christopher Giancarlo, CFTC Commissioner

“The presence of high frequency quotes is associated with improvements in the efficiency of the price discovery process and reductions in the cost of trading. Even when high frequency trading is associated with large extractions of liquidity in individual securities, the price process in those securities appears to be quite resilient.”
Professors Jennifer Conrad, Sunil Wahal and Jin Xiang

“…overall the extensive use of computerised trading has resulted in better liquidity on the market. There are no signs of major risks being involved, such as major fluctuations in prices as a consequence of algorithmic trading.”
Danish Financial Supervisory Authority

Further Resources

May 6, 2016: Phantom Liquidity and High Frequency Quoting
Professors Jesse Blocher, Ricky Alyn Cooper, Jonathan Seddon and Ben Van Vliet find that “the only thing occurring during high levels of cancellation activity is HFT firms seeking the correct price level. This is good for the market. It means that HFT firms process information and help improve price discovery without the need for intermediate executions.”

December 21, 2015: High Frequency Trading: Fact and Fiction
Dr. Stephen Kirchner, an economist with the Australian Financial Markets Association, found that computer-based trading is widely misunderstood. In particular, it has been claimed that high frequency trading imposes costs on retail investors. In fact, algorithmic trading, including HFT, enhances market quality and efficiency by increasing liquidity, lowering bid-ask spreads, facilitating price discovery and lowering the volatility of the prices for financial assets. By lowering transaction costs, HFT raises rates of return to investors and boosts asset prices.

October 2015: High-frequency trading and market quality: What’s the deal?
A blog post by Evangelos Benos of the Bank of England’s Financial Markets Infrastructure Division in which he concludes “the inescapable conclusion that so far emerges is that HFT has mostly had a positive impact on market functioning.”

November, 2014: High Frequency Quoting, Trading, and the Efficiency of Prices
Professors Jennifer Conrad, Sunil Wahal and Jin Xiang studied the two largest equity markets in the world: the full cross-section of securities in the U.S., and the largest 300 stocks on the Tokyo Stock Exchange. The sample period is 2009-2011 for the U.S. and 2010-2011 for Japan. The evidence suggests the presence of high frequency quotes is associated with improvements in the efficiency of the price discovery process and reductions in the cost of trading. In fact, average effective spreads are lower for stocks with higher quote updates by 0.5 to 6 basis points.” And even when high frequency trading is associated with large extractions of liquidity in individual securities, the price process in those securities appears to be quite resilient.

November 2013: Trading Fast and Slow – Colocation and Liquidity
Professors Jonathan Brogaard, Björn Hagströmer, Lars Nordén and Ryan Riordan performed a study at NASDAQ OMX Stockholm to assess how speed affects market liquidity. Liquidity improves for the overall market and even for non-co-located trading entities. The study results suggest that increasing the speed of market-making participants benefits market liquidity.

October 2013: High Frequency Traders: Angels or Devils?
Jeffrey G. MacIntosh of the C.D. Howe Institute concludes that despite being at a pronounced speed disadvantage, retail traders have realized a net gain from the presence of HF traders in the world’s capital markets.

June 2013: Equity Trading in the 21st Century
Professors James Angel, Lawrence Harris and Chester S. Spatt conclude that market quality has been improved and the introduction of HFT to the marketplace resulted in lower costs and increased liquidity.

May 13, 2013: Low-Latency Trading
Professors Joel Hasbrouck and Gideon Saar paper Bloomberg calls the second “most-cited” on HFT, finds that increased low-latency activity improves traditional market quality measures—decreasing spreads, increasing displayed depth in the limit order book, and lowering short-term volatility. Our findings suggest that given the current market structure for U.S. equities, increased low-latency activity need not work to the detriment of long-term investors.

July 2010: High Frequency Trading and its Impact on Market Quality
Professor Jonathan A. Brogaard finds that high frequency trading is an integral part of the price discovery process and price efficiency. The study demonstrates HFT trades and quotes contribute more to price discovery than non-HFT activity.

“Numerous studies – including the recently released UK Foresight HFT project – have shown that transaction costs for both retail and institutional traders decreased substantially with the growth of high-frequency trading."

Larry Harris, former sec chief economist

Financial Times, December 27, 2012

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