High-frequency trading, HFT, entails using algorithmic trading programs that make it possible for an investor to execute thousands of high-speed trades in an easy manner. It is a type of trading that started in proprietary trading firms and hedge funds but soon found its way in crypto trading.
HFT is well known for giving firms a competitive advantage over regular investors. This is the number one reason why it has gained so much momentum. However, not so many people are aware of how it works.
How Does HFT Work?
To best explain it’s working, let us start by imagining a market in which there are small individual traders. Think about a stock in which you do not have any news about whatever is going on. There is high price stability and is dominated by many small traders.
Some investors have received significant gains and start to think that the stock is overpriced. Others have seen these gains and would like to be a part of it.
There are those who have been watching and have now made the decision to be a part of it yet there are those who owned it and are happy with how things are but need money. Thus, the demand and supply are well balanced, leading to a steady price trend in the stock.
Now, picture a situation where these traders are not entirely small investors. They are mainly big institutional traders who pretty much do the same thing, that is, some buy while others sell.
Whenever they execute a buy and sell order, it involves millions of shares rather than hundreds. As the day progresses, they create a lumpy pattern. It becomes hard to see an up or down pattern but in a real sense, they are moving the market up and down.
With regards to cryptocurrencies, HFT entails buying and selling the cryptos at a very high speed. Traders hold on to the purchased cryptos only for a few seconds before reselling them. Measurement of such transactions is done in microseconds or millionths of a second.
The idea is that you use the minutest change in prices to make a profit.When such trades are made over and over again at a high frequency, it results in millions of profits within a fraction of time.
People are not fast enough to keep up with the time requirements of a high-frequency trade. As the human trader is still reaching a phone call or replying to an email, there would be several profit opportunities that come and go.
Bots are normally used because they not only execute a trade but also make decisions without the involvement of a human trader. Successful high-frequency traders have found a series of highly effective bots to meet their needs.
The profits in high-frequency trades do not just originate from changes in crypto prices. They also take into consideration rebates that are offered by certain traders as a way of providing liquidity.
Rebates may be tiny, but when millions of these are involved and brilliantly executed by bots, they result in great, unimaginable profits.
Advantages of HFTs
There are some good reasons why HFT has been embraced by so many traders. The following are some of the many benefits that can be obtained from high-frequency trades:
1. Better market access
In the world of crypto trading, access to the market comes in handy. It determines whether or not you will be able to make a sale and how fast that will happen. When it comes to HFTs, their access to the market is unquestionable. They have direct access meaning there is no need for a broker needed to execute a trade.
As much as brokers are known to facilitate trades, we all know that there are demerits associated with their involvement in a trade. From deliberately undermining you due to clashing interests to charging high fees, the last thing you want to do as a trader is to have to deal with these brokers.
Given the direct market access enjoyed by HFTs, it is possible to decide the exchange to which an order will go while at the same time executing the order where the price is most favorable.
When you decide to do high-frequency trading with bots, you have total control over the exchange you would trade on. The bots quickly scan the market to determine prices and make a decision as opposed to waiting on a broker to do that for you.
2. High-speed trades
This is an obvious benefit of high-frequency trading. Just as the name suggests, you are going to carry out a trade at such a rapid rate. What this implies is that you do not have to wait for such a long time for you to start seeing the gains of having decided to become a trader.
Speed is of the essence in the world of crypto-trading. Even though the idea of cryptocurrencies has been around for almost a decade now, the industry is still one of the most volatile. Therefore, you do not want to hold on to a trade for such a long time.
Rather, what you need is to finalize a trade quick enough while making profits in the process. The use of bots in HFTs is the surest way to do so. These bots are designed specifically for this kind of trading, meaning they know how to maneuver around different situations brilliantly.
3. Extended profit opportunities
The main reason why you got involved in crypto trading was the hope that you would be able to make a profit. If there are no opportunities for profit generation, you are better off doing some other things apart from crypto-related stuff.
A major benefit of high-frequency trading of cryptocurrencies is that you can make a profit even from the smallest price change.
When you use bots throughout the whole trading time, they scan numerous markets and exchanges, giving you a wide range of trading opportunities from which a profit is almost assured. There is literally no way you would be a loser when doing HFT.
High-frequency Trading & Crypto Dark Pools
As we discuss the idea of HFT in cryptocurrencies, it is important to also have an overview of the crypto dark pools. These have been making their way into the crypto markets at a much slower rate than HFT but they are of significant impact.
The main reason why investors consider crypto dark pools is so that they get more liquidity and also stop the market from having a glimpse of what they are buying and selling. This mostly benefits large institutional investors whose actions may easily turn against them.
One common thing between crypto dark pools and high-frequency trading is that they have both been demonized by regulators from time to time. Some argue that they may lead to price volatility but there is no data to back up such an assumption.
In any case, prices have been stable for as long as the HFT began taking shape. The trading activities and liquidity of HFT proponents have in fact enhanced market efficiency.
When high-frequency trading is done with bots, the trader has a higher chance of successfully executing a trade. Powered by artificial intelligence, the bots are able to do everything on their own, including executing a trade and making key investment decisions.
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