Does FX Face The Same HFT Vulnerabilities As Stock Markets?

Thursday, 10/04/2014 | 09:06 GMT by Andrew Ralich
  • The fragmented nature of the global FX market to an extent insulates the industry from having prices manipulated by buy-side HFT systems.
Does FX Face The Same HFT Vulnerabilities As Stock Markets?

The fragmented nature of the global FX market (which is a frequent source of challenges and frustration for tech providers, LPs and regulators) to an extent insulates the industry from having prices manipulated by buy-side HFT systems. Due to the fact that equities exchanges trade at one centralized point, the tactics used by HFT systems to manipulate pricing can be focused on the single venue where all parties transact. In FX, this is a bit different, as there are many different Liquidity pools, some custom to a specific broker, geography or even type of client. This makes it much more difficult to "rig" the system as in many cases you are trading on a stream custom tailored to your type of flow.

In an exchange model, for any algorithmic participant, both the "seed" feed and feed they are pricing into is the same. With FX, even the providers who are pricing into an exchange are generating their feeds off of inputs from multiple other liquidity pools. This allows for a natural set of checks and balances that prevent any single provider from moving the overall market. It certainly is possible that an HFT system could target and manipulate a single pool, but it would be quite difficult to do this against the market as a whole.

One area where price manipulation can rear its ugly head is in less liquid currencies, where the number of available Liquidity Providers and pools is smaller. This is, generally speaking, less due to an increased vulnerability to technically sophisticated price rigging or jittering and more just due to a lack of participants.

Electronic FX trading has had the benefit of maturing on the heels of online / algorithmic stock trading and I am confident that the banks and LPs behind FX pricing are watching and learning from the examples shown in the HFT equities space.

The fragmented nature of the global FX market (which is a frequent source of challenges and frustration for tech providers, LPs and regulators) to an extent insulates the industry from having prices manipulated by buy-side HFT systems. Due to the fact that equities exchanges trade at one centralized point, the tactics used by HFT systems to manipulate pricing can be focused on the single venue where all parties transact. In FX, this is a bit different, as there are many different Liquidity pools, some custom to a specific broker, geography or even type of client. This makes it much more difficult to "rig" the system as in many cases you are trading on a stream custom tailored to your type of flow.

In an exchange model, for any algorithmic participant, both the "seed" feed and feed they are pricing into is the same. With FX, even the providers who are pricing into an exchange are generating their feeds off of inputs from multiple other liquidity pools. This allows for a natural set of checks and balances that prevent any single provider from moving the overall market. It certainly is possible that an HFT system could target and manipulate a single pool, but it would be quite difficult to do this against the market as a whole.

One area where price manipulation can rear its ugly head is in less liquid currencies, where the number of available Liquidity Providers and pools is smaller. This is, generally speaking, less due to an increased vulnerability to technically sophisticated price rigging or jittering and more just due to a lack of participants.

Electronic FX trading has had the benefit of maturing on the heels of online / algorithmic stock trading and I am confident that the banks and LPs behind FX pricing are watching and learning from the examples shown in the HFT equities space.

About the Author: Andrew Ralich
Andrew Ralich
  • 4 Articles
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About the Author: Andrew Ralich
Andrew has extensive experience in both the software development and financial technology fields. Andrew was awarded a patent for work on a data migration utility for Goldman Sachs during his time at EMC (2005-2008). In parallel he founded reThink LLC (2007–2009), a software consulting firm targeted at financial applications and algorithmic trading systems. Andrew has gained experience in advanced trading-systems development, back-office system development, and enterprise risk management. Andrew has combined his programming skills, options trading expertise, and ability to identify enterprise-level solutions for brokerages, managers, and traders in his role at oneZero Financial. He holds a Bachelor of Science in Computer Science from Worcester Polytechnic Institute. Andrew has extensive experience in both the software development and financial technology fields. Andrew was awarded a patent for work on a data migration utility for Goldman Sachs during his time at EMC (2005-2008). In parallel he founded reThink LLC (2007–2009), a software consulting firm targeted at financial applications and algorithmic trading systems. Andrew has gained experience in advanced trading-systems development, back-office system development, and enterprise risk management. Andrew has combined his programming skills, options trading expertise, and ability to identify enterprise-level solutions for brokerages, managers, and traders in his role at oneZero Financial. He holds a Bachelor of Science in Computer Science from Worcester Polytechnic Institute.
  • 4 Articles
  • 6 Followers

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