The Impacts of High-frequency Trading on the Financial Markets' Stability

Download or read book The Impacts of High-frequency Trading on the Financial Markets' Stability written by Haval Rawf Hamza and published by . This book was released on 2015 with total page 64 pages. Available in PDF, EPUB and Kindle. Book excerpt: High-frequency trading (HFT) is a new area in financial markets. The term HFT refers to a subset of algorithmic trading (AT). After Michael Lewis' book "Flash Boys" HFT has quickly become a term known to the general public. As the debate over HFT continues, many concerns about contributions of HFT to market quality are raised by market participants, media, regulators, academics, and general public. Although many studies have been conducted to understand high-frequency traders' (HFTs) behaviors and their market impacts, each study targeted a different market, therefore the conclusions cannot be generalized to markets which are organized differently. Nonetheless, by studying papers that examine different markets' samples, we can advance our understanding of HFTs' behaviors in a wider area, and we can generalize our conclusion on a higher level. This paper focuses on micro-structural effects of HFT on the financial markets. Throughout this paper, changes in liquidity, price discovery, transaction cost, volatility, and market fragmentation were discussed. A review of the literature showed that: first, HFTs play a constructive role in financial markets. They reduce the bid-ask spread, cut execution cost and facilitate price efficiency. HFTs' ability to avoid adverse selection and inventory management makes them successful in providing liquidity. Second, HFT and markets' volatility are positively correlated. However, it is not clear that this correlation is due to HFTs' algorithmic strategies nor speed of trading. Many researchers claim that speed of trading does not have any negative effects on the financial market. Hence, regulators are urged to focus more on the algorithmic strategies employed by HFTs in their regulations instead of speed of execution.