What is High-Frequency Trading (HFT)?

What do you think of when you hear the word “trading”? For most people, the answer to this question would probably be something along the lines of “men in suits, shouting and looking at quickly moving charts on a big screen.” Of course, the reality is rather different.

Trading nowadays is very diverse: it could be a young student pressing a few buttons in their favorite trading app, a middle-aged businesswoman researching the ETFs she wants to put her life savings into, or huge corporations using algorithms that sift through thousands of data points per second to execute the best trade. The latter is the subject of this article — it’s called high-frequency trading, or HFT for short.

What Is High-Frequency Trading (HFT)?

High-frequency trading, or HFT, is a trading method that uses computer programs to execute a large number of orders per second. It also involves utilizing complex AI algorithms that continuously analyze the market to find price discrepancies in bid-ask spreads and are able to determine the best buy/sell opportunities. It uses a lot of computing power.

Understanding High-Frequency Trading (HFT)

High-frequency trading can be seen as a thousand regular trading sessions executed within seconds — without much input from the trader. HFT algorithms can open and close thousands of different trades per second all by themselves. 

High-frequency traders use code to exploit things like short time frames, minor discrepancies in bid-ask spreads, trends, and more. HFT needs to be as close to being fully optimized as possible to work well. As a result, it is very greedy for all kinds of resources, from computing power to the trader’s time.

It is possible for retail investors to run their own high-frequency trading algorithms. However, it requires a thorough understanding of both programming and trading as well as the resources to run said algorithms. Additionally, HFT usually implies a really high total trading volume, which is also quite demanding on hardware. 

As a result, HFT is not really used by anyone but institutional investors on a large scale. Many regular traders see it as a fun exercise or a passive way to make a few dollars.

How Does High-Frequency Trading Work?

The goal of high-frequency trading is short-term gains that would be near impossible to catch for a human. To achieve that, those algorithms make thousands of calculations per second to determine whether an asset is under- or overvalued and notice triggers that would be invisible to the naked eye.

High-frequency trading algorithms seek to take advantage of any and all discrepancies they can detect in any given bid-ask spread. The profits gained from these trades are usually pretty minuscule, but they add up: after all, the program can execute thousands of transactions per second.

Since high-frequency trading is so dependent on catching the right moment to open and close the trade, it needs to be run on very powerful hardware. This is one of the main reasons why it is not very accessible to retail investors. Another one is the fact that high-frequency traders have to have a deep understanding of the market they’re trading in and have to be ready for any issues that may arise.

Here’s an example of a high-frequency trading session.

High-Frequency Trading in Crypto

High-frequency trading can be and is being used in the crypto industry just as well as in the stock market. Cryptocurrencies and their volatile prices are perfect for institutional investors that have the capability to take advantage of abnormal bid-ask spreads.

The crypto market makes it really easy to execute arbitrage trades — a staple in high-frequency trading strategies. It involves looking for differences in the price of an asset, be it Bitcoin or stocks, on different exchanges.

Benefits of High-Frequency Trading (HFT)

Besides being incredibly profitable for its creator if done right, high-frequency trading also offers another huge benefit: it creates market liquidity. Many high-frequency traders take on the role of market makers by simultaneously placing both bids and asks on the same market. 

Market makers are always welcome in any market and platform, be it Binance or the New York Stock Exchange — after all, they are what keeps the markets healthy. Their existence allows other market participants to execute smooth trades.

FAQ

Is high-frequency trading profitable?

High-frequency trading can be profitable if used to its full potential. If you’re not using the best algorithms or good hardware to run it, you are unlikely to make huge profits with HFT.

Is high-frequency trading good?

HFT is not inherently good or bad — it is a tool that can be used by high-frequency traders, like trading bots. Some of them are good people, and some are not so much. However, when it comes to making money for institutional investors or creating liquidity on the stock and other markets, HFT is definitely good.

How much does a high frequency trader make?

High-frequency traders do not have a base salary. More often than not, their income will vary wildly depending on things like the quality of the hardware and complex algorithms, the state of the market, and, most importantly, chance.

Can you do high-frequency trading from home?

Technically, it is possible to become a high-frequency trader in the comfort of your own home. However, that venture is unlikely to turn out profitable.

Is high-frequency trading unfair?

HFT is not unfair per se but can definitely be used in unethical ways and lead to ill-gotten gains. Although there are many regulations in place, HFT can still be used to manipulate asset prices.

Disclaimer: Please note that the contents of this article are not financial or investing advice. The information provided in this article is the author’s opinion only and should not be considered as offering trading or investing recommendations. We do not make any warranties about the completeness, reliability and accuracy of this information. The cryptocurrency market suffers from high volatility and occasional arbitrary movements. Any investor, trader, or regular crypto users should research multiple viewpoints and be familiar with all local regulations before committing to an investment.