We have the biggest, deepest, most efficient markets globally in areas like large capitalization stocks that are the the bellwethers of institutional portfolios by value. What's the incremental efficiency worth and to whom? Cliff Asness of AQR Capital Management is a hedge fund manager and quant who knows his way around the world inhabited by HFT firms. Surprisingly, he doesn't come out unambiguously in favor of high frequency trading.
His firm uses HFT, and he says that his analysis, which I can attest from reading his papers would be very quantitative, suggests that HFT lowers his firm's trading costs. Attributing his firm's cost savings to HFT alone is a leap of faith. Here's what Dr. Asness writes,
"It seems to have reduced our costs and may enable us to manage more investment dollars. We can't be 100% sure. Maybe something other than HFT is responsible for the reduction in costs we've seen since HFT has risen to prominence, like maybe even our own efforts to improve."Further, hedge funds love to trade in instruments where illiquidity and informational inefficiency are always present. Where else would significant incremental returns be found? Certainly not in trading Microsoft. So even for traders who have large proportions of their volume in these instruments, the benefits are not demonstrable.
Exchanges and specialist firms still produce what some would call "licenses to print money." But, these folks argue that spreads have come down consistently over time, and since markets are ultimately social constructs, then certain costs for providing reliable, fraud-free, and efficient markets are monies well spent.
Traditional institutional traders have embraced electronic trading with each other for decades. Perhaps these platforms aren't the the Gumperts of high speed trading, but if they are fast enough, anonymous enough and comfortable enough for their markets participants, why innovate incrementally for unknown, higher risk benefits?
"Real work is necessary to improve and safeguard a complex and still reasonably new system," Asness writes. Why spend the money? Incremental efficiency isn't worth it for everybody. Put a tax on HFT and see where it goes, and find other ways to make the markets more transparent and incrementally efficient without legitimizing and indemnifying some wealthy geeks in back rooms with their computers.