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Regulations and Technology Behind HFT Latency, Batch Auctions and Payments for Order Flow in the US and EU

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  • Martins Carlos Jorge Lenczewski

    (Institute of Banking and Finance, Finance and Management Collegium, Warsaw School of Economics, Warsaw, Poland, ORCID https://orcid.org/0000-0003-4595-7976.)

Abstract

Since the appearance of high-frequency trading in the 1990s, speed has become one of the key issues in trading and with it, the controversy around High-Frequency Trading. In recent years, there have been many discussions and analyses of how high-frequency trading may affect the financial market – but still without any clear conclusions. Leaving these opinions behind, many adjustments have already been made in the US and Europe - both to regulations and market rules, impacting not only High-Frequency Trading but general electronic trading as well. These rules and regulations are the result of technological developments in electronic trading and more specifically, High-Frequency Trading and the practice of Payments for Order Flow. The question remains as to how deep regulations should go, especially in the case of HFT which can be severely affected by harsh regulatory requirements or procedures. Because two of the most important issues in HFT are time and information, some of the rules and regulations affect aspects such as not only what type of information and how it should be gathered, but also clock synchronisation and time-stamp granularity. Another issue that may be considered controversial in the field of HFT (although it is not a practice limited to HFT) is Payment For Order Flows. Under this mechanism, wholesale market makers pay brokers for their client’s order flow – a practice that performed in great amounts and at high speeds may give a considerable level of “inside” information. Regulations, especially from ESMA (MiFID II). try in great part to thus mitigate the practice of Payments For Order Flows.The aim of this paper is to present technological advancements in the field of trading communications used, not only by HFT firms, but also by exchanges. Additionally, the objective is to underline some challenges regarding regulatory changes that try to adapt to the current level of technology – for example, those related to clock synchronisation and data processing. One last issue brought forward is the possibility of converting markets from continuous-time auctions to discrete-time auctions - a concept that is aimed at liquidating the speed advantage and competition only to price level and hence, eliminating HFT advantages.

Suggested Citation

  • Martins Carlos Jorge Lenczewski, 2018. "Regulations and Technology Behind HFT Latency, Batch Auctions and Payments for Order Flow in the US and EU," Financial Internet Quarterly (formerly e-Finanse), Sciendo, vol. 14(2), pages 34-46, June.
    • Handle: RePEc:vrs:finiqu:v:14:y:2018:i:2:p:34-46:n:6
    DOI: 10.2478/fiqf-2018-0010
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    References listed on IDEAS

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    1. Eric Budish & Peter Cramton & John Shim, 2015. "Editor's Choice The High-Frequency Trading Arms Race: Frequent Batch Auctions as a Market Design Response," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 130(4), pages 1547-1621.
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    More about this item

    Keywords

    HFT; MiFID II; batch auctions; granularity; clock synchronisation;
    All these keywords.

    JEL classification:

    • D47 - Microeconomics - - Market Structure, Pricing, and Design - - - Market Design
    • D53 - Microeconomics - - General Equilibrium and Disequilibrium - - - Financial Markets
    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation

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