High-Frequency Trading: The Fastest Way to Make Money in Trading…!!
Trading has completely changed in the 21st century. In earlier times, accuracy in trade was more important than speed. Now, things have changed, speed plays a far bigger role. Computers have changed the semantics of how trading is done. The electronic style of trading was first introduced in the 1970s. The advent of modern technology has given rise to high-frequency trading. It involves selling and buying securities such as stocks, ETF at extremely high speeds. High-frequency traders utilize powerful computers and complex trading strategies to rapidly transact large quantities. Around 50% of the trading volume in NSE is contributed by algorithmic trading.
The working mechanism of high-frequency trading:
The high-frequency trading has two main components i.e. Computers and algorithms. The computer with the help of algorithm analyze a large number of stocks across various exchanges and afterward executes the trade with the help of the trading system. The algorithms are programmed to spot trends and make decisions. These decisions convert into an order, which can be executed in micro and millisecond. Humans cannot make decisions based on such lightning speed.
Those who trade at high frequency, try to profit from the price movements caused by large institutional trade. For instance, if a mutual fund sells a large number of shares of a stock, the price dips and HFT buy on the dip, hoping to be able to sell the shares a few minutes later at a higher price.
Risk Involved in High-Frequency Trading:
There are various types of risk involved in high-frequency trading:
- Amplification of Market Risk: One of the attributes of high-frequency trading is that it amplifies the market risk. For instance, if the market momentum is already going down and at the same time, a large number of trades can exaggerate these trades, leading to a larger downturn.
- Creation of Uncertainty among investors: High-Frequency trading can be triggered for reasons unknown to a common investor. This uncertainty can be best described through an example. Let’s suppose, when a market suddenly goes down or collapse at higher speed, a common investor remains puzzled about the reason. At the same time, large investors will scale down its positions to avoid the risk. This will put the market further lowers. Common investors will remain puzzled about the momentum of the market.
- Ripple effects on the market: In the interconnected global market today, any high or low movement in one market has a radical impact on the other market too. Some things that impact one market can triggers trade-in another market, causing domino effects across various markets.
- Algorithms Faults: A trading algorithm is mostly written by humans. All humans are not perfect. The possibility of one of these imperfections in the programming of the algorithm may triggers major market downturn.
Let’s look at the benefits of High-Frequency Trading:
- One of the key advantages of trading in HFT is that a large number of orders can be executed at a high volume, thus increasing the chances of making a profit.
- Due to high-frequency trading, the market’s liquidity has increased.
- The use of high frequency and algorithmic trading has also given birth to Robo-advisory.
Rules of High- Frequency Trading:
The success in trading depends upon critically low-latency communication and decision making. Let’s look at some of the other factors to consider before trading in High-Frequency Trading:
- Stick to high volume stocks: A trader in high-frequency trading always sticks to high volume stocks. The higher the volume, the greater the potential for a price change to stick, which can further lead to strong price momentum.
- Take a longer time frame: HFT can only affect prices in the short term. But as one goes towards longer time frames, one almost eliminates their influence.
- Get a jump on the market: To anticipate a trend change, one needs to use predictive indicators to know where the market trends are going. It’s better one gets on board of a trend early.
*Disclaimer: investment in securities market are subject to market risks, read all the related documents carefully before investing