[ M A R K E T
A N A LY S I S
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H F T ]
A
fter the publication of Mi-
chael Lewis’s “Flash Boys”
in 2014, the high-frequency
trading (HFT) firms dominating
financial markets in the shadows
were brought to light.
They were pictured as predators,
using high powered computers
to execute trades at a millionth
of a second, putting other market
participants at their mercy.
Fast forward a few years later and
the big bad HFT monsters don’t
look quite so flash or scary. With
the volatility index (VIX), also
known as the ‘fear gauge’, at an all-
time low, HFT firms are now facing
a challenge they never thought
they would have to face: making
money.
It has forced some of the big play-
ers to make some radical decisions,
with consolidation taking hold.
The shock announcement that
Virtu Financial will take over KCG
in a massive $1.4 billion deal was
the first major acquisition to arise
out of 2017.
The decision by KCG to merge
with its long-time rival could have
been driven by declining profits.
KCG had struggled outside of
its US equities business in 2016,
as revenues for non-US market
making in the fourth quarter
plummeted 60% to just $17 million
in comparison to $43 million in the
first quarter.
This was followed up with news
Houston-based Quantlab Financial
would buy the high-speed trading
business from Teza Technologies
for between $20-30 million.
Finally Two Sigma Securities,
the market making arm of Chicago
72
The Trade
Summer 2017
Profits from HFT are estimated to have
peaked for the industry at close to
$5 billion
in 2009.
based quantitative hedge fund Two
Sigma, said it will purchase the
options trading business of Inter-
active Brokers.
Tumber Hill, the opetions market
making unit of Interactive Brokers,
said it would shut down after 25
years of operation, following a
reported $22 million loss in market
making in the first quarter of
2017. The wind down of the unit
is expected to cost the company
an estimated one-time cost of $25
million.
Fast but not so furious
So why has consolidation become
the order of the day? Alongside a
decline in profits, one catalyst to
merge is to expand into new asset
classes.
“The acquisition of KCG shows
the continuing competitive spot
that marketplace is in. It has
become more competitive for the
HFT industry in general, and I
wouldn’t be surprised to see more
consolidation in that space. You
will see some of the true propri-
etary traders merge as an expense
cutting play and as a way to move
into new asset classes,” says Carl
Gilmore, president, Integritas
Financial Consulting.
What is noticeable from these
deals is that HFT firms are strug-
gling to make money on speed
alone.
“It has become such an arms race
that it is impossible for the tradi-
tional business model to compete,”
adds Gilmore.
“When it comes to speed, if you
are first you make a whole bunch
of money, if you come second you
make nothing. You can spend only
so much money on technology to
shave off microseconds. Those