High-frequency trading, also known as HFT, is a cutting-edge approach that harnesses the power of sophisticated algorithms and lightning-fast technology to execute many trades per second.
Essentially, HFT is a high-frequency scalping system that capitalises on minuscule price fluctuations between different currency pairs traded in the forex market. While these fluctuations are fleeting and often negligible to the human eye, they can yield substantial profits when combined over thousands of transactions.
High-frequency trading is widely practised in most financial markets but is most prevalent in the forex market for numerous reasons. Forex is attractive for HFT because transactional costs are low, and there is an abundance of liquidity from numerous sources.
While many forex brokers consider HFT trading toxic and either ban the practice or provide poor conditions to deter HFT traders, Scandinavian Capital Markets takes a different approach. We offer custom solutions designed specifically for HFT systems to thrive.
High-frequency trading strategies offer traders unique opportunities to capitalise on the financial markets but also demand specific skills and tools. Here’s how traders typically profit using HFT strategies.
Exploiting micro-movements: HFT strategies focus on capturing tiny price movements in the market. Though small, these small gains can accumulate into significant profits across many trades.
Arbitrage opportunities: HFT algorithms can identify price discrepancies for the same asset across different markets, venues or brokers and execute trades to capitalise on them before they are corrected.
Correlation arbitrage: Using advanced mathematical models, HFT can identify statistical mispricings between related currency pairs and execute trades to profit when the prices converge.
Trend following: High-frequency algorithms can quickly identify and act on emerging trends faster than human traders or slower automated strategies.
High-frequency trading systems require specific conditions to ensure profitability and efficiency, such as low spreads, reliable execution and low commissions.
Low spreads: Low spreads are essential as HFT strategies typically capitalise on minute price discrepancies. Wide spreads can easily erode potential profits, especially when trading strategies involve many trades. Tighter spreads ensure that the transactional cost is minimised.
Low commissions: As with spreads, HFT strategies deal with a high volume of trades. Even minimal commission fees can accumulate quickly, eating into profits. Brokers that offer competitive commission structures are preferred.
Low slippage: Slippage can significantly impact the profitability of HFT. Given that many HFT strategies target tiny price changes, the actual execution price needs to be as close as possible to the expected price.
Fast execution: Speed is of the essence in HFT. Delays in order execution, even if only a few milliseconds, can result in missed opportunities or unanticipated losses. The ability to execute trades almost instantaneously is vital.
Fast and accurate price data: HFT algorithms rely on timely and accurate price feeds to make trading decisions. Any inaccuracies or delays can cause incorrect trades or missed opportunities.
Low latency: Latency refers to the time it takes for data to travel between the trader’s system and the broker or exchange. In HFT, every millisecond counts. Reducing latency ensures that traders have the most current market data and that their trades are executed in the shortest time possible.
Co-location: Many HFT traders use co-location services, placing their servers directly in or near brokers’ data centres. This reduces the physical distance data must travel, effectively minimising latency.
Liquidity: HFT strategies require markets with sufficient liquidity to ensure that large numbers of orders can be executed without significantly affecting prices.
Many of the characteristics required for high-frequency forex trading are easy to access with market-making brokers or retail brokers that internalise order flow. However, those firms consider HFT systems problematic because their risk management systems cannot manage these transactions efficiently, so most retail brokers prohibit HFT.
Many retail forex brokers, especially market makers or those with internal execution, severely dislike HFT strategies. Overall, they feel HFT forex strategies are designed to take advantage of brokers’ inefficiencies rather than take advantage of the market.
Order flow disruption: Market makers aim to provide liquidity by continuously quoting buy and sell prices. HFT can flood their systems with a massive number of orders in a short span, only to cancel them quickly. This disrupts the order flow and can make it challenging for market makers to maintain a stable quoting environment.
Toxic order flow: In market-making terminology, “toxic” order flow refers to trades likely to result in immediate adverse price movements. Some HFT strategies can create such order flows, which are detrimental to market makers, who might consistently be on the losing side of these trades.
Reduced profit margins: Market makers profit from the spread between the buy and sell prices. HFT strategies often target minimal price discrepancies, which can erode the profit margins for market maker brokers.
Inability to hedge: Market makers usually offset their exposure internally and only hedge externally under certain circumstances. Because HFT order flow is opened and closed quickly, the market maker doesn’t have time to react and hedge the risk externally.
System overload: The sheer volume of orders generated by HFT can strain a broker’s trading infrastructure, potentially leading to system lags or outages, impacting the entire business.
Risk management concerns: The speed and volume of HFT can outpace risk management personnel and traditional systems, which introduces new risks, and many market makers might not have the tools to handle the challenges of high-frequency strategies.
Scandinavian Capital Markets is a broker that supports the most demanding and unique strategies. We work with proprietary trading firms, family offices and algorithmic and high-frequency traders.
We work closely with clients to build and optimise custom data and liquidity feeds to support your trading strategies. You’ll get a dedicated liquidity consultant matching you with the right execution venue from our roster of over 30 counterparties. We’ll ensure you have the fastest data feed and lowest latency possible.