How Speed Traders Are Changing Wall Street

It's called "co-location," a service that high frequency traders will pay tens of thousands of dollars a month for, and includes access to raw data from the exchange that is almost instantaneous.

"We're getting down to, you know, 'How fast can the electrons travel at this point?'" Leibowitz explained.

"They can predict the price of a stock before you can, because of the speed that they're using," Joe Saluzzi told Kroft.

"So, they actually see the trades before you do?" Kroft asked.

"They can see order flow coming into the exchanges before a regular person off of say a Bloomberg or somebody who doesn't have the co-location, the data feeds, and all the other sophisticated technology that they employ. Which is not cheap, by the way, it's extremely expensive to set these things up," Saluzzi said.

Asked how much faster they see it, Saluzzi said, "It could be a few milliseconds."

"How much of an advantage is a couple of milliseconds?" Kroft asked.

"Millions, if not billions of dollars a year," he replied.

That edge, Saluzzi claims, has made high frequency traders the new insiders on Wall Street, and he says he spots signs of predatory behavior every day. Saluzzi, who trades large blocks of stock for institutional investors, says the supercomputers are programmed to place and then cancel thousands of orders a second, trying to sniff out which way a market is moving in order to jump in ahead of big rallies and sell off before big declines. He calls them parasites who exploit a technological advantage to suck money out of the market and add no value.

Asked if high frequency trading raises capital for companies, Saluzzi said, "Absolutely not. If anything, it's distracting from the capital raising process."

"Do these high-frequency trades have anything to do with market fundamentals?" Kroft asked.

"Valuation is irrelevant. It's all about just moving the price up and down the ladder all day long. Each day is new. Each day starts fresh. So, you have to question the true valuation of the markets now," Saluzzi said.

Larry Leibowitz of the New York Stock Exchange says there is absolutely no evidence that small investors are being hurt by high frequency trading. Most of them, he says, don't care about pennies when they are buying and selling stocks. And they're in it for the longer haul.

"Look, there's always been charges for as long as trading has existed that people are front running orders, manipulating stocks. This is nothing new. I think now you add to it the element of the mysterious element of 'the computer' and it makes people even more mistrustful," he told Kroft.

Leibowitz and other proponents of high frequency, high speed computer trading say it has performed a valuable function: tripling volume, reducing stock spreads and transaction costs, and providing liquidity to the markets.

"Liquidity means that if you want to buy or sell a stock you could do it right away, and you could do it at a fair price. That's what liquidity means. And without short-term traders, there is no liquidity," Manoj Narang explained.

Traders like Narang say their presence in the market is making it cheaper and easier for everyone to buy and sell stocks, but regulators and lawmakers like Senator Ted Kaufman of Delaware have other concerns.

"Clearly, liquidity's way up. But what I say is, liquidity's always trumped by transparency and fairness. You can't have fairness if you don't have transparency," Sen. Kaufman explained.

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[justus22]

Absolute confirmation by everyone commenting, HFT is purely criminal activity. Here is couple things to consider, imagine some of these algorithms can be used to study individual trading accnts and create perturbances consistent with that causing capitulations by you, load the algorithm and beat your accoung into submission, show of hands who thinks this has happened, indeed ! Now imagine the government leasing some of these servers and running algorithms to take down any citizen with money they dislike, for instance pot smokers, or those that buying stock that goes against their recent purchases, essentially anyone they wish to list as terrorist like, your toast, they summarily take you out via emptying your buying power, see ya, this is truly happening, look into it you see this...timee for class action lawsuite against the coders (all india folks, they don't care about americans, all server companies, all folks leasing these servers to run these algorithms), together is the only way, individually they'll smirk at you like they did to Steve Croft, we are all just weasels in their eyes, suckers for sure !!

[MrEdgarPerez]

For more information about the implementation of a high-frequency trading platforms, Golden Networking is organizing High-Frequency Trading Experts Workshop 2010 (http://www.HFTExpertsWorkshop.com), "Practical Implementation of High-Frequency Trading Strategies", 2-day workshops in Hong Kong, November 22 & 23 and New York, December 9 & 10. It has been recommended for executives in finance and investments who work at Investment Banks, Hedge Funds, Pension Funds, Broker Dealers, Consultancy Groups, Prime Brokers, Solution Providers and Exchanges and wish to gain a thorough understanding and practical knowledge of high-frequency trading.

[mrjustice1]

MORE NON-PRODUCTIVE PARASITES APPLYING THEIR WAYS...

...to avoid contributing something of essence that would benefit our country and its residents.

Let others do labor, and let others support these phony, unnecessary 'service employees' who refuse to do their fair share of real, needed work.

Put them to work in farming, environment care, or some other productive function!

[keithl4]

If Joe Saluzzi thinks HFT have an unfair advantage (over him), does he also believe he has an unfair advantage over common folk who are restricted to not trade between mutual funds in their 401K faster than once every 30 days? We should have a level playing field. EVERYONE should be held to the same limitations. Get rid of the high frequency traders, day traders, and all the leaches that get rich at my expense. They add nothing to the market. They only suck.

[phil94941]

These HFTs came to prominence when the spread (difference between ask and bid) went to pennies. If you want to slow down the HFTs then go back to a 5 cent spread and stop the rebates.

[mhw089]

There are two words that I did not hear in Steve Kroft's piece on flash trading..."front-running" and "jail". What the quants are doing with their high-speed computers is clearly illegal and does cost the normal trader money. When you or I or some major fund makes a large trade which will inevitably cause a particular stock price to tick up temporarily the quants see it before the trade is executed on the Stock Exchange computer and sneak in an order for that stock just before the normal trader's buy is executed. As soon as the normal trade is completed the quants sell that stock, having captured the instantaneous and temporary uptick in price. That early trade raises the price that the normal trader has to pay for the stock. That is front-running and is plainly illegal. It is a form of electronic insider trading. The quants who practice this secret procedure should all be wearing striped jump suits provided by the state.

[josephp5]

I didn't understand how HFT could possibly work until I read your comment.

Now I understand---The whole thing is simply an electronic form of front-running!

In other words, suckers like me make trades that execute in hours. These computers see that I and other people are in the process of executing a trade, and can use that information to predict the temporary direction a stock may take. They then make trades that execute much faster---they are in and out before my trade order even goes through.

And you are right---front-running is illegal, and these people belong in jail.

[Commodityone]

I am a trader who works independently. I can tell you that all the markets are manipulated by the largest traders. The trick to being profitable as a smaller trader is to read that manipulation and understand tendencies in a larger time frame in order to make a profit along with the large traders, not to buy or sell something and hold it forever like so many are taught. However, the market needs losing trades in order to function well, and thanks to so many of you who so willingly provide that function, as I did for a few years, so well! Anybody who really understands trading is surprised at how naive non professional traders are such as the producers of this piece. It truly is gambling or worse for the untrained or uneducated, like anything else. You wouldn't drive a car without training and understanding, yet millions of people throw their hard earned money away every day without real training or understanding of the game that they are in and that is the way the largest players like it.

[wangii]

This report is missing critical elements that don't put the whole story in context.

1) HFT is just another name for program trading that has been around for at least 20 years (ever since the computer has been on Wall St.) - don't believe me, google 'program trading.' Anyone who doesn't know that is ignorant, including 60 minutes, who make this out to be some new phenomenon. Not exactly cutting edge reporting 60 min.

2) Having an edge is, was and always will be the predominant way to make money in the markets -- anything else is just gambling. Fairness in an illusion. The best that small investors can hope for is the "desire" to attain fairness. Unfair people will always be one step ahead because those are the people that run the markets. Everyone else is just following along.

3) Regulation NMS was a designed to help the individual investor, supposedly because market makers and institutional traders were getting better prices for securities than the small guy. So a rule was devised that any investor should always get the best price for any security. Great in theory, but the reality has decentralized trading exchanges and enabled dark pools and black box trading... so that as long as real price discovery is the objective... it doesn't matter if you get your fill on BATS, ARCA, the New York Stock Exchange or from your broker's proprietary stock trading system. The people Reg NMS was supposed to help ended up getting shafted (once again) because the big guns on Wall St have the money to acquire and in some case build their own high speed proprietary computer systems that can trade a hell of a lot faster than your home PC. So if you put in an order that gets filled in one minute, you think that's fast? Some algo went out and bought your order for a penny or two less in 30 milliseconds round trip and sold it to you at the offer price and you didn't even know it happened. The algo makes money on the spread. Not that much different from what market makers were doing manually before decimalization was introduced. So now HFT has put the traditional market makers out of business. The end result is that the game is still the same, the players have changed slightly, but the puppet strings are still being pulled by the big guns. The irony is that the regulation that was supposed to help the small investor and level the playing field has created a brand new uneven playing field -- whether it was intentional or unforeseen is up to you to decide. That's why it's important to remember that the people on Wall St. are more clever than you and will always be one step ahead.

Have you ever walked into a casino? You should always account for the same odds when you gamble in the stock market.

[jackas13]

As a self-employed person, doing my own investing and failing miserably over the years, i thought the piece about the super computers was very interesting until you interviewed Senator Ted Kaufman, (Dem) Delaware. Him saying the stock market should be fair and transparent was kind of like the kettle calling the pot black. Where was the congress oversight during the billions of dollars that some Wall Street bankers were raking in on Credit Default Swaps and the unraveling of the housing market created by congress removing traditional standards. Both caused millions to lose billions in their credit unions, mutual funds, etc. Senator Kaufman speaking of fairness and transparency in the market made me laugh, remembering the lack of transparency we have had in congress the past 18 months, when we were promised open meetings and transparency during the creation of the healthcare bill. The only ones being hurt with the high speed computers are other market professionals that just can't compete on the same level. I do believe he was right about one thing, that most Americans do feel there is a small number of people swimming in the wealth of America and the bankers aren't alone in this pool and isn't the super computers. I preferred the honest interview with EMINEM.

[kkrugerud]

Why not charge a commission for each and every trade; if a super computer makes millions of trades to profit just a few pennies, a commission/trade will put this tactic out of commission. Seems to me that this is the fair cure all and end all, since any other trader has to pay a commission.