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Risk and Return in High-Frequency Trading

Published online by Cambridge University Press:  19 September 2018

Abstract

We study performance and competition among firms engaging in high-frequency trading (HFT). We construct measures of latency and find that differences in relative latency account for large differences in HFT firms’ trading performance. HFT firms that improve their latency rank due to colocation upgrades see improved trading performance. The stronger performance associated with speed comes through both the short-lived information channel and the risk management channel, and speed is useful for various strategies, including market making and cross-market arbitrage. We find empirical support for many predictions regarding relative latency competition.

Type
Research Article
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2018 

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Footnotes

1

The authors thank Hank Bessembinder, Tarun Chordia, Thierry Foucault, Terry Hendershott, Charles Jones, Andrew Karolyi, Robert Korajczyk, Ananth Madhavan, Katya Malinova, Maureen O’Hara, Neil Pearson, Ryan Riordan, Gideon Saar, Ronnie Sadka, and Wei Xiong for their valuable feedback. The authors also thank Jennifer Conrad (the editor) and Ingrid Werner (the referee). The authors are grateful to Finansinspektionen for making data available for the article. Hagströmer is affiliated with the Swedish House of Finance and is grateful to the Jan Wallander and Tom Hedelius Foundation and the Tore Browaldh Foundation for research support.

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