High-frequency trading is now an integral part of market-making in the US and failure to include these participants in regulatory dialogue could be harmful to market structure, according to a new report from research firm Aite Group.
“Regulators must spend the necessary time and effort ensuring that the interests of the high frequency trading community can be incorporated into any future changes in the marketplace,” said Sang Lee, managing partner at Aite Group and author of the report, in a statement. “Given the level of influence the high-frequency trading community currently has in the financial services industry, any regulation developed without their active participation is doomed to fail.”
The report, titled ‘High-frequency trading: A critical ingredient in today’s market’, notes that ECN growth, FIX adoption, decimalisation and the increase in electronic trading tools has created a “fertile ground for the exponential growth of the high-frequency trading community”.
In turn, the report contends that high-frequency players have increased volume and improved market quality, demonstrated by increasing liquidity and tighter spreads in the US market. In 2006, when Reg NMS was being implemented and when NYSE launched its hybrid market, the exchange averaged daily trading volumes of 3 billion shares, compared to well over 7 billion in recent months.
However, the report also contended that the growth of high-frequency trading has resulted in challenges as well as benefits. Since 2002, average trade size has fallen from 700 shares to under 300 shares and as a result, the report noted, completing large, institutional-sized trades has become more difficult.
The effect of high-frequency trading strategies has also increased market participants’ IT spend, as firms now need improved systems to cope with increasing volume and trade against it.