Modern Microstructure High Frequency Trading Spread Capture and

Questions to think about in advance • How should Market Quality be measured? •

Outline 1. Market Making 2. Order Placement 3. High Frequency Trading and Market Quality

Market Making • Consideration – Spread – Potential rebate • Costs – Adverse selection

Order Placement • Order Placement is at the Heart of Algorithmic Trading • Algorithmic

HFT & Market Quality Recent Research: • "An analysis of trades by high frequency

Analytics • • Watching market action in real-time P&L versus various benchmarks Interval volumes

The Flash Crash • Setting the stage – Market down ~ 2. 5% –

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Modern Microstructure: High Frequency Trading, Spread Capture, and The Flash Crash

Questions to think about in advance • How should Market Quality be measured? • What is the impact of High Frequency Trading on Market Quality? • What caused the Flash Crash? • What was the impact of the Flash Crash? • What can/needs to be done to prevent another Flash Crash?

Outline 1. Market Making 2. Order Placement 3. High Frequency Trading and Market Quality 4. Analytics 5. Synthesis: The Flash Crash

Market Making • Consideration – Spread – Potential rebate • Costs – Adverse selection – Information leakage • Strategies – Place – Revise – Cancel • Did market making activities contribute to the flash crash?

Order Placement • Order Placement is at the Heart of Algorithmic Trading • Algorithmic Logic • Algorithmic Degrees of Freedom – Price – Timing – Size – Destination Sofianos, Xiang, and Yousefi "All-in shortfall and optimal order placement", January 2011 "Going to the races: venue toxicity comparisons", December 2010 "'Good fills, bad fills' and venue toxicity", November 2010 • Potential Results

HFT & Market Quality Recent Research: • "An analysis of trades by high frequency participants on the London Stock Exchange“ Jarnecic and Snape, 2010 • "High frequency trading and its impact on market quality“ Brogaard, 2010 • "Low-latency trading“ Hasbrouck and Saar, 2010 • "Algorithmic trading and information“ Hendershott and Riordan, 2009 • "Does algorithmic trading improve liquidity? “ Hendershott, Jones, and Menkveld, 2010

Analytics • • Watching market action in real-time P&L versus various benchmarks Interval volumes Destination Attribution

The Flash Crash • Setting the stage – Market down ~ 2. 5% – Greek unrest – Bid side liquidity shrinking • The e-mini trade – Only 9% of volume – Created unusual flurry of HF activity – Contract went limit down • Equities and ETFs – Lots on cancelling with no replenishment – Retail stop-loss market orders triggered – Many matched with “stub” orders left on book • Who is to blame? – – – – Waddell and Reed Barclays Retail investors Agent for retail customers HF market makers Regulation Market structure All of the above? • Regulatory Response – Single Stock Circuit Breakers – Ban On Naked Access – Consolidated Audit Trail