Buck Naked
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It's not obvious how fast trading algorithms interacting with one another will influence prices over time. Nonlinear dynamic systems can behave in shocking ways, so you're certainly not alone harboring that fear.
Just to be clear, which I’m fairly certain you understand, I don’t want to mislead anyone into thinking algorithms are flawed from a mathematical standpoint, but that they are only as good, fair, useful as the recipe from the human who creates them.
With that being said, most of my background is at a much higher level of aggregation and abstraction. I'm not very familiar with market microstructure to be entirely honest. How much do you know about the nuts and bolts of these algorithms?
It’s not that I have any specific knowledge into any proprietary HFT algorithms, just that I have knowledge of what components are required to create these algorithms. I was raised in the investment world by my father, but was educated and practiced my earlier years as a pure mathematician focusing primarily on combinatorics. My interests and what I have pursued since then I rather not share on such a vile and currish forum.
What kind of research did you do to determine it was a matter of algorithms running amok?
Just from reading academic reports and evaluating whose explanation seemed more plausible as well as implementing some of my own thoughts into the matter. For whatever reasons or info they may be reacting too, algorithmic traders seemed to have set their commands(unknown to each other), especially on sell and stopsell orders at levels where they created a massive grouping near each other, which in turn forced out the algorithmic marker makers from the market, thus increasing order flow toxicity to a level where liquidity dries up, creating a sort of no liquidity zone where price free falls. There have been many of these instances, although not at such a level. The SEC fantasize their regulations may limit it, but we haven’t seen a bear market like 1929-1932 with computerized trading and don’t really know how trading algorithms react with each other(as you noted) which may effect the speeds of price action when markets enter extreme turmoil.
I think I read a report by Clarivate Analytics(but could be mistaken on who wrote it) whose explanation I determined to be plausible. And I followed the Commodity Futures Trading Commission and the Securities and Exchange Commission’s report of that day and didn’t buy their single order explanation. Since that day, a Flow Toxicity metric has been created to give realtime estimates for which liquidity is provided, which is a better response than SEC regulations, IMO, but it remains to be seen if and how many HFT’s integrate it into their algorithms.
Anyway, none of this affects swing or long term traders, so it’s not important from my standpoint.
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