It has been more than a month since Michael Lewis released Flashboys, an adrenaline shot in the arm of the automated trading industry. But despite the picture that Michael Lewis paints, trading – and automated trading in particular – is not all about speed. In fact, in today’s dynamic environment, the quest for zero latency provides global trading firms with incrementally less marginal returns. Simply stated: latency’s low-hanging fruit has already been picked.
That isn’t to say that some firms won’t find a competitive advantage to being faster; rather, it is clear that for any given $1 investment, it is better to dedicate resources towards finding smarter trading strategies as opposed to faster ones.
Invest in new markets, asset classes
30 years ago, traders were limited by what they could trade based on their physical location. If they were in the corn pits, perhaps they could wander to an adjacent pit, but they remained quite limited. Today, the same trader can trade any number of products, virtually 24 hours a day, from the Asian open to the US close.
In this environment, firms with adaptable software and technologies benefit. Imagine a profitable strategy deployed in a single product. Today, the most successful firms are the ones able to take these working trades and quickly scale them out to new asset classes or geographies. With arbitrage opportunities often small or fleeting, yet increasingly expensive to discover, the ability to replicate what works to many venues ensures the highest possible return on research dollars.
Traders need software that can offer this on/off functionality. Using the right software, traders can process more data simultaneously, running strategies concurrently. Scaling horizontally, from US short-term interest rates to European STIRS, for example, is often as simple as checking or unchecking a box.
Speed matters – in iteration time
Markets offer ever-changing dynamics, and the quicker that a modern, global firm can go from idea to production, the better. Similarly, the faster that one iteration can be morphed into another more profitable model, the better. Today, firms are shortening development times and tweaking successful automated strategies, instead of sending them back into simulation for another full round of testing.
This is important as these traders and firms are able to iterate quickly and adapt quickly. Focusing on a niche in the market helps to make that possible. From there, traders are able to move that strategy to new markets where it may also be profitable.
Diversify the trade environment
The proliferation of high-quality data analysis tools means that many traders now use multiple applications to discover trading ideas. Often, the best tool for sifting through data or performing large matrix calculations is different from the best execution platform or risk screen. Consequently, the trading environment today has transformed into a collection of software knit together by communication channels called APIs.
By using software designed to communicate in well-known ways with other software, traders can easily choose the tools that best fit the needs of their business. At the same time, the ‘swappability’ inherent in such a modular system means that as users encounter new markets and new products that have different requirements, they can simply switch pieces of their system without replacing their entire environment. As a result, traders get better tools that are more adaptable and more scalable to their needs.
If Mr Lewis were looking for a theme to today’s global automated trading, this is what he would have found: firms are committed to trading smarter, not simply faster. While speed does matter, there are many things much more important. Unfortunately, that realisation would not have provided him with the villain that he was looking for.