High-frequency trading firms are hitting a growing number of “speed bumps” around the world—the latest blow to a business that has struggled in recent years.
Exchanges on both sides of the Atlantic are increasingly embracing the mechanisms, which impose a split-second delay before executing trades.
By 2020, more than a dozen markets in stocks, futures and currencies from Toronto to New York to Moscow will slow down trading via speed bumps or similar features, if all the current planned launches are carried out. Five years ago, only a few markets had speed bumps.
Supporters say speed bumps can help thwart ultrafast strategies that hurt investors. Critics—including many electronic trading firms—say they make markets unnecessarily complex and unfairly favor certain players.
Taking a Pause
More than 10 markets have added speed bumps or similar features since 2013.
By trying to blunt the impact of ultrafast trading, exchanges are defying high-speed trading giants that account for a huge portion of their volume, in a bid to appeal to more-traditional clients. Financial institutions such as banks and pension funds have long complained that high-frequency trading, or HFT, eats into their profits.
“It’s finally boiled to the point where the exchanges started paying attention to what their clients are saying,” said Roman Ginis, founder of IntelligentCross LLC, a startup U.S. stocks-trading platform.
HFT firms make money through rapid-fire trading of stocks, futures and other assets. The industry is controversial, due to negative depictions in works such as Michael Lewis’s book “Flash Boys.” The traders say such portrayals are unfair and that HFT benefits investors.
The industry has consolidated in recent years as mounting costs for technology and market data have squeezed profits. Research firm Tabb Group estimates that HFT firms’ revenues from U.S. equities trading were $1.8 billion last year, down from $5.7 billion in 2010. Exact numbers are difficult to obtain because most HFT firms are private.
Among the exchanges set to debut their first speed bumps are the London Metal Exchange, which plans to add an eight-millisecond delay to gold and silver futures later this year. Chicago-based
Cboe Global Markets
hopes to add a speed bump on its EDGA stock exchange in 2020, if it wins regulatory approval.
LME, Cboe and other markets adopting speed bumps say they want to neutralize “latency arbitrage,” a strategy in which a fast trader takes advantage of a moving price before other players can react.
For instance, suppose an investor has posted a quote to sell shares of
at $10.00, and the price is about to tick up to $10.01.
An HFT firm might buy Ford shares from that investor just before the price rises, then immediately sell them, earning a one-cent-per-share profit. Such firms use sophisticated algorithms and fast data-transmission networks to forecast small price changes and act on them quickly.
A speed bump could help that investor. Cboe’s proposal would force the HFT firm to wait four milliseconds before buying the Ford shares. But the same delay wouldn’t apply if the investor sent Cboe an electronic message canceling his or her $10.00 sell order. That gives the investor a brief window of time to avoid being picked off by the faster trade.
Most of the latest speed-bump plans have a similar, “asymmetrical” design, meaning they don’t apply equally to all trades. Such speed bumps are typically meant to favor players who publicly quote prices on an exchange, rather than those who attempt to buy or sell using those prices.
In many cases, the new speed bumps cover small, thinly traded markets, and they could help exchanges juice trading volumes by encouraging traders to post more quotes.
LME’s and Cboe’s planned speed bumps are asymmetrical. Atlanta-based exchange giant
won approval for such a speed bump on its U.S. futures market in May. Eurex, the derivatives arm of Germany’s
, has deployed asymmetrical speed bumps on some markets since 2017, and Moscow Exchange, in Russia, added such a speed bump to a dollar-ruble FX market in April.
The proliferation of such speed bumps is troubling, because it means investors can’t be certain of the prices they see on exchanges, said Jamil Nazarali, global head of business development at electronic trading giant Citadel Securities.
“The big risk is that you’re going to see a lot of phantom liquidity, which will harm execution quality for both retail and institutional investors,” he said.
Proponents say asymmetrical speed bumps could help end a costly, futile race in which HFT firms seek to build ever-faster technology—like microwave networks and even lasers—to shave nanoseconds off the time they take to execute trades.
“Anti-latency arbitrage mechanisms are here to stay,” said Matt Clarke, who oversees European client relationships for U.K.-based XTX Markets, one of the few high-speed trading firms that supports the speed-bump trend.
“They’re a natural reaction to the destructive speed race, so we are seeing them proliferate in multiple asset classes across the world,” he added.
The evidence is mixed on whether speed bumps help investors. Last year, an SEC economist released a study that found that the speed bump on
—the startup exchange featured in “Flash Boys”—had reduced costs for investors. But some market experts have criticized the study.
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