September 16, 2011

HFT Is NOT Responsible for Market Volatility – You Are!

There is a lot of talk these days about HFT - High Frequency Trading - that is computers selling and buying with a time span of less than a second. People argue that these computers are the reason why the stock market is going down. But is that true?
Articles have been written about the increase of market volatility, that computers are a greater share of the market-volume, and that the computers are the reason to the high volatility. Manoj Narang argues that this is not true.
The volatility has increased - but not because of the computers. One can compare data from 2000-2006 to the data from 2007-today. The year 2007 is of interest here because 2007 was the birthday of HFT. Traders have used computers to generate buy or sell signals before 2007 - but they did not use HFT.
The data reveals that from 2000-2006, the S&P 500 moved an average of 0.83% from one day to the next. Between 2007-today the S&P 500 moved an average of 1.06% from one day to the next. But has this increase been caused by computers of the financial meltdown all over the world?
To solve this, Manoj Narang argues that one can look at the volatility of the market when the market is close. The close of the market one day is not the same as the opening of the market the next day because of what has happened during the night in Asia and Europe. And computers can not trade when the market is closed. From 2000-2006, the S&P 500 moved an average of 0.37% per day when the market was closed, whereas from 2007 onward, it moved 0.61% per day during this period. That is a 65% increase. This volatility reflects one thing and that is markets react to news, and since 2007, there has been plenty of news which has caused investors to panic.
One can also say that markets are now less volatile during trading hours than they would otherwise be in the absence of HFT. From 2000-2006, the S&P 500 moved an average of 0.76% between the open and close of the same day - compared with 0.85% since 2007. Volatility during trading hours has increased only 12% when volatility during non-market hours has increased 65%. Volatility is caused by panic behavior. Computers can not panic - only humans can.

Comment by Trejdify
One can also argue that the HFT-computers are also trading in Europe and in Asia - which may influence the opening of the S&P 500 so we still thinks that this subject whether HFT is good or bad is not closed yet.

Source: The High Frequency Trading Review