What exactly is high frequency trading? Is it as bad as some people claim it to be?
As I understand it, when an order to buy, say, 10,000 shares of Exxon gets placed, the purchase will get pieced together by searching across multiple servers where offers are listed and putting together the 10,000 shares in bits and pieces from these various servers. What HFT's are doing (and I am sure this is grossly oversimplified) is that once it sees this order pinging a server, it runs ahead at high speed to other servers and buys up blocks of Exxon at price A and then offers it up to the pokey buying search when it finally arrives at those servers at A+a bit more. That "a bit more" may be less than a penny, but the pennies add up and if done right, there is almost no trading risk.
This is bad, though generally not for us small investors but for our mutual fund companies. For my little trade of 100 shares that might be cleared on the first server, HFT's have no opportunity to play. Moreover, I may not even notice a penny or two difference in the price I get. This is a much bigger deal for mutual fund companies and large investors clearing larger trades, where a few pennies can add up to a lot of money.
An exchange always has to be really careful to maintain its image of fairness, and systematically allowing such behavior, called front-running, is not good for the health of the market. Which is why you are hearing a lot about this.
Here is what you are not hearing ... [about what may not be all that bad about it, after all, G.T.]
Make sure to read on at the source.
Consider also Is the Stock Market really Rigged?
Personally, to the extent that the above description is exhaustive, I don't see a moral problem. If the trading arrangements are voluntary and open to competition, what's wrong with efforts to best utilise them for the participants' and their clients' purposes? It looks as if some are benefiting by bringing superior technology to bear on the system, while at the same time I can't see how others are precluded from defensive action or withdrawal from the HFT infrastructure.
UPDATE
In a lengthy review of the book that triggered the recent HFT debate, the "Mercenary Trader" (Jack Sparrow) argues:
If you imagine that HFT came out of nowhere and started stealing at the speed of light, then okay, it is outrageous. If you imagine that HFT is a “tax” on markets that some jerks just decided to impose for zero economic give-back, then okay that is outrageous too. But if you understand that liquidity provision is a benefit, and that 21st century technology can allow for liquidity provision at a lower cost than the old system, you start to understand that all this talk about market “rigging” is a bunch of red herring garbage.
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