Opinion: Rationalizing Latency Competition in High-Frequency Trading Headlands Technologies LLC Blog
There is a common misunderstanding, even among practitioners, that low-latency trading is a waste of human talent and resources that could instead go to advancing physics or curing cancer. It s been attacked by books like Flash Boys, governments trying to pass transaction taxes, and exchanges bending to pressure by implementing speed bumps or periodic batch auctions. This essay argues the positive case for HFT and latency competition based on four main reasons: (1) Low latency trading lowers spreads, (2) Economically significant things do happen on sub-millisecond time scales, (3) HFT is the optimization layer for capitalism, and (4) Markets are not a zero-sum game.
Latency plays a significant role in how humans interact with the world. When we perceive and respond to stimuli, there is an inherent delay between the occurrence of an event and our reaction to it. This delay, or latency, is typically around 200 milliseconds, which is the time it takes for light to enter the eye, be converted into an electrical signal, traverse the brain s neurons to decide on a response, and finally travel to the muscles to trigger an action.
The implications of this latency extend beyond simple reactions. When we make decisions based on information from various sources, the age of that information can significantly impact the accuracy and effectiveness of our choices. For instance, reading news from a day-old newspaper means basing decisions on information that is 24 hours old. In the past, communication latency was even more pronounced. In 1776, Americans made decisions based on information about Europeans that was around 3 weeks old, due to the time it took for ships to cross the Atlantic.
Latency also plays a role in more mundane interactions, such as negotiating the price of a used car. Both the buyer and seller enter the negotiation with pre-existing knowledge and expectations, but the actual negotiation process involves a rapid exchange of information through verbal and non-verbal cues. This high-frequency interaction helps both parties uncover additional information about the other s willingness to pay or sell, ultimately leading to a mutually acceptable price.
In essence, latency is present in all human interactions, from simple reactions to complex decision-making processes. Understanding the impact of latency on these interactions is crucial for developing effective strategies to manage and mitigate its effects, both in personal and professional contexts. The field of high-frequency trading has emerged as a means to address latency in financial markets, aiming to facilitate more efficient price discovery and reduce the potential for market distortions.
You don’t have to read this, but it’s just more reason to believe that markets really are pretty, pretty efficient. So no, HF trading is not another reason for smarty-pants regulators to impose taxes or do other things to slow markets down. And this is not even considering they’ll probably be corrupt anyway.