ECB Working Paper Says “HFT provides a useful service to markets”

Critics of high-frequency trading were given food for thought as the European Central Bank released a working academic paper on High Frequency Trading (HFT) with specific research on price discovery. Europe has been speared with mixed views on high frequency trading. The latest research reinforces the ongoing clarity academic research provides on the many misconceptions of HFT.

The working paper which is authored by industry professionals, Jonathan Brogaard, Terrence Hendershott and Ryan Riordan provides a clear insight into the true nature of HFT, a misunderstood framework in certain European nations.

Germany recently introduced legislation in which is believed to be the declining state of its financial markets. The government introduced new rules which forced trading firms to disclose their HF trading strategies, as well as certain practices to ‘manage’ high- frequency trading.

In the paper, the authors study data from transactions executed at NASDAQ. The report explains the methodology of its data; “The data used in the study are from 2008-09 for 120 stocks traded on NASDAQ. Of the 120 stocks, 60 are listed on the New York Stock Exchange Stock Exchange A stock exchange, also known as a securities exchange or bourse represents is a facility where stockbrokers and traders can buy and sell securities.This includes shares of stock, bonds, exchange-traded funds (ETFs), or other financial instruments. By extension, stock exchanges can also provide facilities for the issue and redemption of such securities and instruments and capital events including the payment of income and dividendsStock exchanges have developed into a permanent fixture in the fin A stock exchange, also known as a securities exchange or bourse represents is a facility where stockbrokers and traders can buy and sell securities.This includes shares of stock, bonds, exchange-traded funds (ETFs), or other financial instruments. By extension, stock exchanges can also provide facilities for the issue and redemption of such securities and instruments and capital events including the payment of income and dividendsStock exchanges have developed into a permanent fixture in the fin Read this Term and 60 from NASDAQ.”

The trio found that HFT provides a range of advantages to the marketplace and thus creates a more stable and efficient trading environment.

“Our research suggests, within the confines of our methodological approach, that HFT provides a useful service to markets. They reduce the noise component of prices and acquire and trade on different types of information, making prices more efficient overall. Introducing measures to curb their activities without corresponding measures to that support price discovery and market efficiency improving activities could result in less efficient markets,” the report states.

“Our results provide no direct evidence that HFTs contribute directly to market instability in prices,” the authors added.

ECB officials have been known for their scaremonger opinions on HFT. Ewald Nowotny, (president/ governor of the National Bank of Austria) a member of the ECB’s governing council spoke at a conference in 2011 which called for a ban on high-frequency trading, saying it had no practical value, as reported by Reuters.

Mr Nowotny was quoted as saying: "For example, with high-frequency trading there is nothing to be regulated, it is to be banned. There is no really demonstrable net advantage from this (form of trading)."

HFT is gaining traction as firms across the globe use the new ultra-fast trading strategies. The trading approach is believed to account for over 70% of trading volumes on major US exchanges.