Friday, August 19, 2011

High Frequency Trading and Your 401K

     I have had a few people asking me lately about this phenomenon called high frequency trading or HFT. They are - quite rightly - concerned about their 401K's and their stock portfolios, and have been reading some of the sensational headlines about HFT causing the market plunges.
     As a reporter, I started covering HFT and algorithmic trading about 10 years ago, so I know a little bit about it. Quite simply, it is electronic trading of stocks and other automated instruments such as oil and corn futures. What high frequency traders do is build clever computer programs, called algorithms, to dip in and out of these markets and shave off a penny here and there. If they do it enough times - and they do - they can make quite a bundle.
     What is not entirely clear at this point is whether they are ripping off the average investor. My retail brokerage has a low latency trading platform, so in theory it stands a fighting chance of getting me a good price at any given moment. Having said that, last week when Apple shares were puking I put in an 'at market' bid (I know, stupid, but I'm lazy) when Apple was at $363 - I got filled at $366.79. Quite a difference, even though it was done in seconds - seemingly instantaneously. HFT's, however, can get a deal done in less than a millisecond - some a lot less because their trading machines sit right next to the exchanges' machines.
     The jury is out whether regulators will throw their weight around and try to control HFT. The reason? That is where the money is. When the firms that own the big HFT machines trade more than 50% of the equities market volume, there is bound to be some pushback. My advice is this: if you can't watch your investments on a VERY regular basis - not daily but all day long - you are bound to get trampled when the machines take over. Once those magic stop-loss numbers are hit, they will sell all the way down. Until the computer says it is time to buy, that is. In the meantime you will be crushed.
     As Kyle Reese said in the Terminator movie: "Listen, and understand. That terminator is out there. It can't be bargained with. It can't be reasoned with. It doesn't feel pity, or remorse, or fear. And it absolutely will not stop, ever, until you are dead." Or broke.(Thanks for the line, Tim!)