High-frequency trading (HFT) is a computer program that uses powerful computers (hardware) to transact a large number of orders at very fast speeds. It uses complex algorithms to analyze multiple markets and execute orders based on market conditions. Typically, the traders with the fastest execution speeds are more profitable than traders with slower execution speeds.
The major benefit of HFT is it has improved market liquidity and removed bid-ask spreads that previously would have been too small. This was tested by adding fees on HFT, and as a result, bid-ask spreads increased.
HFTs are buying when the price is below trend and selling when the price is above trend. This tends to reduce the price fluctuations. When they are successful, prices look like the blue line on the chart. The blips are smaller and shorter-lived.
High frequency traders try to profit from the price movements. When a large fund sells a million shares of a stock, the price dips—and HFTs buy on the dip, hoping to be able to sell the shares a few minutes later at the normal price. When a pension fund buys two million shares, the HFTs short-sell the stock, hoping to close their position at a profit.
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