Predatory Algos Raking It In (GS)

We found an interesting article over at theatlantic.com about the pervasiveness of algorithmic trading in today's markets. Most market participants are aware of the fact that 70% of all U.S. equity trades are triggered by fast moving computers designed to make millions of trades per day. Average daily share volume on the New York Stock Exchange has increased by 181% between 2005 and 2009 as high frequency traders flood the market with orders, making their money a penny or a fraction of a penny at a time. Although these traders defend their algos by saying that they provide liquidity, many market participants are leery of them, particularly after the "flash crash" which occurred on May 6th.

The Atlantic article cites a newsletter from the Federal Reserve Bank of Chicago, which warned that “Although algorithmic trading errors have occurred, we likely have not yet seen the full breadth, magnitude, and speed with which they can be generated. Furthermore, many such errors may be hidden from public view.” Human investors and traders are also concerned about the computers front running their orders and as a result, putting them at a disadvantage. According to Grant Thornton's David Weild, “It is increasingly clear that there are quite a number of high-frequency bandits in the high- frequency-trading community who pump up volume statistics, front-run investor orders, increase transaction costs, and hurt real liquidity.”

Among the biggest high frequency traders on the planet? Goldman Sachs (NYSE: GS), Citadel Investment Group, and GETCO. This is a very important issue that effects all market participants. Are the deep liquidity, tight spreads, and lightning fast order execution that these firms provide the markets with, using their high frequency strategies, worth the possible risks? One thing is for sure - the fast trading crowd is making a lot of money (think billions) and as much as they would like to remain hidden in the shadows, this issue will likely become only more heated in the years to come.