'Flash boy' high frequency trading helps make markets more efficient
A year after Michael Lewis's book brought the supposed menace of high-frequency trading to public attention, researchers at UK regulator the Bank of England suggest speedy trading may not be so bad for markets after all.
Electronic trading makes stock markets more efficient by enabling them to react more quickly to new information, the Bank of England working paper concluded. The authors took the FTSE 100 Index's 20 largest stocks and examined how they traded on the London Stock Exchange in the four months through the end of 2012. They compared the trades of 10 HFT firms with the orders placed by 10 investment banks.
The report came out on the same day that HFT firm Virtu Financial published filings for a possible public offering later this year. Virtu suspended its share sale in the aftermath of "Flash Boys" as the book intensified concern that computerised trading firms had rigged equity markets.
The company's willingness to return to the market implies that investors and regulators increasingly accept HFT as part of market structure.
"Overall, I think it's a good thing for the market," Michael Horan, the head of trading at Pershing, a unit of Bank of New York Mellon.
"Spreads have tightened and there's empirical evidence to support that."
A spread is the gap between the bid and offer prices for an asset. HFT firms may narrow the spread, making it cheaper to buy and sell securities, by updating prices more quickly with the latest available information.
High-speed traders place huge numbers of the same bets at the same time, prompting concern that their trading could cause or worsen sudden market crashes, according to the BoE analysis by Evangelos Benos, James Brugler, Erik Hjalmarsson and Filip Zikes. One possibility is that lightning-fast trading could lead to unpredictable interactions, which could mean prices become separated from measures of a company's financial health, such as its profit and sales.
However, the BoE's analysis didn't support this worry.