"Most HFTs run a market making strategy. What this means is they play both sides of the table - they take no position on whether a stock will go up or down. Instead, they try to offer securities both to buy and sell. If you want to buy, they will sell to you at $20.10. If you want to sell, they'll buy from you at $20. As long as their buys and sells match don't get too out of whack, the HFT will collect $0.10 = $20.10 - 20.00."
That does provide more immediate trades for both the buyer and seller, which the pro-HFT camp calls liquidity. Unfortunately it's usually not needed - both the buyer and seller were already in the market and willing to trade, and now they both just had an additional $0.10/share sucked out of their trade by some HFT.
That's why market makers are also called scalpers, because they skim the $0.10 spread. But in return for paying the spread, what traders get is immediacy.
The problem is, how much immediacy do traders actually want? HFT provides immediacy in microseconds; its needed for continuous-time auctions because buyers sellers usually aren't in the market at the exact same microsecond interval (while the HFT is there at every interval).
Frequent Batch Auctions[1], where orders are matched in batches with single-price clearing (call auction style) - just like the opening and closing sessions of NYSE, but much more frequently with shorter periods of say 30 seconds, 1 second, or even 100ms per batch. Their models show that frequent batch auctions will reduce spreads even further (because it eliminates mechanical/latency arbitrage rents). In theory, retail traders should get even better prices (because the spreads will be smaller) if they are willing to give up microsecond immediacy for 1 second order matching.
Current continuous-time trading already provides you the ability to specify very precisely how much immediacy you are willing to pay for. Thats precisely what the market types are about.
I don't particularly have an opinion about the Budish paper, other than it has some serious impacts to globally traded products and it is way more disruptive than people seem to suggest.
I do worry that fundamentally altering the way the markets work, because some participants don't understand order types is particularly troublesome.
Simplish order types (limit/market, good till cancel, immediate or cancel, etc.) can only do so much. When you place a limit order on a continuous-time market, you'll pay exactly your limit price; but on a batch market you'll pay the clearing price (which may be less than your limit price).
The complicated types (hide-n-slide, NBBO pegs, and conditional pegs[1]) may help some players at the expense of others. The only players who wouldn't benefit from batch auctions (according to Budish et. al.) are latency arbitrageurs.
Thats not quite true. Price improvement happens all the time on limit orders, but I'll concede you'll pay close to it if it fills.
> The complicated types (hide-n-slide, NBBO pegs, and conditional pegs[1]) may help some players at the expense of others.
This is true of limit/market/stops as well.
The Budish paper is very interesting.
What we don't know is what it would do to the spread, which is very important especially given that it will be harder to predict the clearing price. It is also a major change to the markets, virtually impossible to implement and its not clear to me what that risk is buying us, especially given that I fully expect most participants to go through an intermediate first.
In the past, either the buyer and seller had to wait longer to find a mutually acceptable price, or pay a lot more than $0.10/share. HFT is actually an improvement for both sides, because they can either 1) buy/sell faster or 2) pay lower transaction costs (and probably both!).
In the given example if a buyer wanted to buy at $20 instead of $20.10 they could easily put in a limit order for that price and wait for a counter party. That would be taking a risk though that either:
A) a counter-party never showed up
B) a counter-party only showed up when the stock dropped so you end up buying on the way down.
Taking this risk is a perfectly fine thing to do and many people do this. Others would prefer to pay the market maker a small fee for providing liquidity. That fee is not being sucked out by some HFT. It's a fee for providing a service.
And BTW, thanks to automation and sophisticated trading algorithms that service is provided at EXTREMELY low cost these days. Bid/ask spreads are tiny.
"Most HFTs run a market making strategy. What this means is they play both sides of the table - they take no position on whether a stock will go up or down. Instead, they try to offer securities both to buy and sell. If you want to buy, they will sell to you at $20.10. If you want to sell, they'll buy from you at $20. As long as their buys and sells match don't get too out of whack, the HFT will collect $0.10 = $20.10 - 20.00."
That does provide more immediate trades for both the buyer and seller, which the pro-HFT camp calls liquidity. Unfortunately it's usually not needed - both the buyer and seller were already in the market and willing to trade, and now they both just had an additional $0.10/share sucked out of their trade by some HFT.