There are all sorts of proposals out there to rein in HFT. The Europeans in particular-and in particular, particular, the Germans-want to do so.
I’ve long argued that there is good HFT and bad HFT, and that trading platforms have an incentive and the information to adjust fee structures and trading protocols in order to mitigate the latter. For example, some exchanges have cracked down on excessive cancellations or the entering and canceling of orders far away from the current inside market.
Today’s FT reports another example, and a rather dramatic one. One of the biggest FX trading platforms, EBS, is jettisoning the venerable time priority (“first come-first served) system with continuous trading. Instead, it will collect orders that arrive during a period lasting a few milliseconds, and then execute them in a batch. Instead of a continuous market, it appears to be a high speed sequence of call markets. This eliminates the advantage of getting your quote in a millisecond sooner than someone else. Perhaps it will also deter forms of gaming, such as strategies that (allegedly) attempt to create and exploit latency.
Will it work? Who knows? But that’s the point. Markets facilitate the process of discovery. Market participants compete to find solutions to problems. EBS has identified a problem, and are trying to fix it using a fairly innovative change to the matching process. If they’re right that some kinds of HFT are detrimental to market performance (and thereby reduces the demand for to trade on the platform), and their replacement of continuous trading with high speed calls impedes this detrimental HFT without impeding the good kind, they’ll make money. And others will likely imitate, or take the basic idea and try to improve on it.
Or maybe it won’t work as planned. In which case they can try something else, or lose business to a platform that devises a better protocol. The point is that a trading platform identified a problem with HFT, and is doing something about it, on its own.
All of this is far superior to top-down, one-size-fits-all government mandated “solutions” that are driven by political economy considerations first, efficiency considerations second . . . or third . . . or Nth. Trading platforms may not internalize all the costs and benefits of better trading rules and fee structures, but their information and incentives are far better than regulators or legislatures. Between competition among HFT firms, and the efforts of trading platforms to optimize the demand for their services, it’s likely that HFT’s rough edges will be smoothed out. And if trading platforms don’t adopt such measures, you have to doubt seriously whether there’s a problem in the first place. Because if there is a problem, they’d be the ones in the best position to know, and the best position to fix it.