A fully revised second edition of the best guide to high-frequency trading High-frequency trading is a difficult, but profitable, endeavor that can generate stable profits in various market conditions. But solid footing in both the theory and practice of this discipline are essential to success. Whether you're an institutional investor seeking a better understanding of high-frequency operations or an individual investor looking for a new way to trade, this book has what you need to make the most of your time in today's dynamic markets.
Building on the success of the original edition, the Second Edition of High-Frequency Trading incorporates the latest research and questions that have come to light since the publication of the first edition. It skillfully covers everything from new portfolio management techniques for high-frequency trading and the latest technological developments enabling HFT to updated risk management strategies and how to safeguard information and order flow in both dark and light markets.
- Includes numerous quantitative trading strategies and tools for building a high-frequency trading system
- Address the most essential aspects of high-frequency trading, from formulation of ideas to performance evaluation
- The book also includes a companion Website where selected sample trading strategies can be downloaded and tested
- Written by respected industry expert Irene Aldridge
While interest in high-frequency trading continues to grow, little has been published to help investors understand and implement this approach—until now. This book has everything you need to gain a firm grip on how high-frequency trading works and what it takes to apply it to your everyday trading endeavors.
Table of Contents:
Preface xi
Acknowledgments xiii
Chapter 1 How Modern Markets Differ from Those Past 1
Media, Modern Markets, and HFT 6
HFT as Evolution of Trading Methodology 7
What Is High-Frequency Trading? 13
What Do High-Frequency Traders Do? 15
How Many High-Frequency Traders Are There? 17
Major Players in the HFT Space 17
Organization of This Book 18
Summary 18
End-of-Chapter Questions 19
Chapter 2 Technological Innovations, Systems, and HFT 21
A Brief History of Hardware 21
Messaging 25
Software 33
Summary 35
End-of-Chapter Questions 35
Chapter 3 Market Microstructure, Orders, and Limit Order Books 37
Types of Markets 37
Limit Order Books 39
Aggressive versus Passive Execution 43
Complex Orders 44
Trading Hours 45
Modern Microstructure: Market Convergence and Divergence 46
Fragmentation in Equities 46
Fragmentation in Futures 50
Fragmentation in Options 51
Fragmentation in Forex 51
Fragmentation in Fixed Income 51
Fragmentation in Swaps 51
Summary 52
End-of-Chapter Questions 52
Chapter 4 High-Frequency Data 53
What Is High-Frequency Data? 53
How Is High-Frequency Data Recorded? 54
Properties of High-Frequency Data 56
High-Frequency Data Are Voluminous 57
High-Frequency Data Are Subject to the Bid-Ask Bounce 59
High-Frequency Data Are Not Normal or Lognormal 62
High-Frequency Data Are Irregularly Spaced in Time 62
Most High-Frequency Data Do Not Contain Buy-and-Sell Identifiers 70
Summary 73
End-of-Chapter Questions 74
Chapter 5 Trading Costs 75
Overview of Execution Costs 75
Transparent Execution Costs 76
Implicit Execution Costs 78
Background and Definitions 82
Estimation of Market Impact 85
Empirical Estimation of Permanent Market Impact 88
Summary 96
End-of-Chapter Questions 96
Chapter 6 Performance and Capacity of High-Frequency Trading Strategies 97
Principles of Performance Measurement 97
Basic Performance Measures 98
Comparative Ratios 106
Performance Attribution 110
Capacity Evaluation 112
Alpha Decay 116
Summary 116
End-of-Chapter Questions 116
Chapter 7 The Business of High-Frequency Trading 117
Key Processes of HFT 117
Financial Markets Suitable for HFT 121
Economics of HFT 122
Market Participants 129
Summary 130
End-of-Chapter Questions 130
Chapter 8 Statistical Arbitrage Strategies 131
Practical Applications of Statistical Arbitrage 133
Summary 144
End-of-Chapter Questions 144
Chapter 9 Directional Trading Around Events 147
Developing Directional Event-Based Strategies 148
What Constitutes an Event? 149
Forecasting Methodologies 150
Tradable News 153
Application of Event Arbitrage 155
Summary 163
End-of-Chapter Questions 163
Chapter 10 Automated Market Making—Naïve Inventory Models 165
Introduction 165
Market Making: Key Principles 167
Simulating a Market-Making Strategy 167
Naïve Market-Making Strategies 168
Market Making as a Service 173
Profitable Market Making 176
Summary 178
End-of-Chapter Questions 178
Chapter 11 Automated Market Making II 179
What’s in the Data? 179
Modeling Information in Order Flow 182
Summary 193
End-of-Chapter Questions 193
Chapter 12 Additional HFT Strategies, Market Manipulation, and Market Crashes 195
Latency Arbitrage 196
Spread Scalping 197
Rebate Capture 198
Quote Matching 199
Layering 200
Ignition 201
Pinging/Sniping/Sniffing/Phishing 201
Quote Stuffing 201
Spoofing 202
Pump-and-Dump 202
Machine Learning 207
Summary 208
End-of-Chapter Questions 208
Chapter 13 Regulation 209
Key Initiatives of Regulators Worldwide 209
Summary 222
End-of-Chapter Questions 223
Chapter 14 Risk Management of HFT225
Measuring HFT Risk 225
Summary 244
End-of-Chapter Questions 244
Chapter 15 Minimizing Market Impact 245
Why Execution Algorithms? 245
Order-Routing Algorithms 247
Issues with Basic Models 258
Advanced Models 262
Practical Implementation of Optimal Execution Strategies 269
Summary 269
End-of-Chapter Questions 270
Chapter 16 Implementation of HFT Systems 271
Model Development Life Cycle 271
System Implementation 273
Testing Trading Systems 283
Summary 286
End-of-Chapter Questions 287
About the Author 288
About the Web Site 290
References 291
Index 303
About the Author :
IRENE ALDRIDGE is an investment consultant, portfolio manager, a recognized expert on the subjects of quantitative investing and high-frequency trading, and a seasoned educator. She is currently Industry Professor at New York University, Department of Finance and Risk Engineering, Polytechnic Institute, as well as Managing Partner and Quantitative Portfolio Manager at Able Alpha Trading Ltd., an investment consulting firm and a proprietary trading vehicle specializing in quantitative and high-frequency trading strategies. Aldridge is also a founder of AbleMarkets.com, an online resource making the latest high-frequency research for institutional investors and broker-dealers. Aldridge holds an MBA from INSEAD, an MS in financial engineering from Columbia University, a BE in electric engineering from the Cooper Union in New York, and is in the process of completing her PhD at New York University. She is a frequent speaker at top industry events and a contributor to academic, practitioner, and mainstream media publications, including the Journal of Trading, Futures magazine, Reuters HedgeWorld, Advanced Trading, FX Week, FINalternatives, Dealing With Technology, and Huffington Post.
