Hedge Funds Face New Reality: High-Frequency Trading Isn’t What It Used To Be

High-frequency trading (HFT) was counted on by hedge funds and other major asset managers to bring in small but consistent profits many times over. Machine algorithms would hunt the stock market for even the smallest of profits and would buy and sell stocks by the millisecond.

According to The Wall Street Journal, the industry isn’t what it used to be.

Size Matters

The Wall Street Journal profiled Dave Cummings, one of the pioneers of HFT. He founded a company called Tradebot Systems which placed millions of trades on a daily basis. In fact, his machine was once responsible for generating more than 5% of the entire stock market trading volume.

His machine was really good at trading to the point where its streak of generating a daily profit extended beyond 3,400 trading sessions.

At its peak performance, Tradebot took in more than $140 million of profit in 2009, a source told WSJ. But by 2019 the machine generated around $30 million in trading profits. The owner told WSJ in a statement that as each year passes, the markets not only become more efficient but have to contend with computers that “get more powerful.”

“Every year your competitors get smarter,” he also said. “It’s always innovate or die.”

Cummings’ trading machine isn’t alone in struggling to duplicate performances seen during the glory years of the 2000s. According to data from research firm Tabb Group, HFT traders made $5.7 billion in 2010 and this figure plummeted to $1.25 billion last year.

Making The Case For HFT

There is no doubt that HFT machines are much faster than any human can be in terms of identifying a potential trade and executing on it. Many argue this places human traders and investors at a disadvantage. But Cummings doesn’t see it this way.

HFTs actually increase the amount of liquidity in the market which makes it easier for humans to buy and sell a stock. The reason is simple: it is much easier to complete a transaction when there are dozens, if not hundreds of robots willing to take on the other side of the trade if it is to their advantage.

Cummings likely believes this argument to be true, based on another business he started: a rival exchange to compete with the New York Stock Exchange and Nasdaq exchange. He founded an exchange called Better Alternative Trading System, or BATS. The exchange was ultimately sold to the Chicago Board Options Exchange.