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High-Frequency Trading (HFT)

Moneyzine Editor
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Moneyzine Editor
1 mins
January 19th, 2024
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High-Frequency Trading (HFT)

Definition

The term high-frequency trading refers to computerized platforms with the capacity to execute a large number of transactions in a relatively short timeframe. High-frequency trading is limited to those institutions with direct feed lines to an exchange.

Explanation

The ability to engage in high-frequency trading (HFT) is limited to large institutional investors, hedge funds, and investment banks. These traders use sophisticated computer hardware and software programs to deliver a large number of orders at very high speed to an exchange. The ability to analyze market conditions, and execute orders at these speeds, provides the users of these systems with a trading advantage in the marketplace.

HFT is characterized by specialized algorithms to analyze market trends, and then move in and out of large positions in a very short timeframe. Anticipating market trends allows these institutions to gain favorable returns on bid-ask spreads. Given the extremely high volumes of trades conducted, even small moves in spreads can result in significant profits for these investors.

The computers used by HFTs are oftentimes co-located in the same facility as the market's servers, thereby lowering order latency by fractions of a second. High-frequency traders are also associated with quote stuffing, which involves placing, then immediately canceling, a large number of orders in order to move the market in a favorable position or take advantage of near-term market confusion.

Estimates indicate HFT accounts for between 50% and 70% of all equity trades occurring in the United States.

Related Terms

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  • The term quote stuffing refers to the practice of placing and canceling a relatively high number of orders for a security in an attempt to manipulate the market. High-frequency trading programs, and direct links to the exchange, make this tactic possible.
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  • Mixed Lot Orders
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  • Designated Order Turnaround (SuperDOT)
    The term designated order turnaround system refers to a computerized network that routes instructions to exchange specialists, thereby bypassing brokers. The designated order turnaround system quickly executes orders to both buy and sell relatively large baskets of stock.
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  • Automated Order System (AOS)
    The term automated order system refers to a computerized network that transmits instructions to the designated order turnaround system or to floor brokers working on the exchange. The automated order system routes the trader's instructions so they can be quickly executed.
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