High Frequency Trading Puts Stock Investors at Disadvantage

Super-Fast Computers Gather Information Not Available to All


The stock market has become a dangerous place for many individual investors.

I'm talking about risks beyond those usually associated with investing such as economic or industry news surprises, global economic instability and so on.

Those at the most risk are people who trade frequently and believe they can "beat the market."

What these traders often don't realize is they are competing not just against other traders, but sophisticated trading programs that run on super-fast computers.

The programs have several names, including high frequency trading.

These programs monitor the market constantly checking prices, volume and so on thousands of times per minute.

Some of these programs are so sophisticated that they initiate trading activity without human intervention.

Other than being super fast, the programs take advantage of a loophole in regulations that obscures part of their activity.

Specifically, the programs can initiate and withdraw thousands of trades at multiple price points almost instantly.

What the programs learn from this activity is where the upper buy range and lower sell range is for any security.

Once the programs know how much the market is willing to pay for a security (the upper limit), they begin selling just below that number.

For example, if you are willing to pay $50 per share for a stock and the current market price is $49, you will probably get your order filled at or very close to $49.

However, if the high frequency programs detect your limit is $50 by flooding the market with orders (and withdrawing them just as fast), the programs will then offer the security at $49.99 or so (but under your $50 limit).

The result is you may pay more to fill your order than you would have under normal circumstances.

This is a very simple example of a very complex activity, but you should know that in addition to costing you money when you buy or sell, these programs can accelerate prices up or down.

Link: http://stocks.about.com/od/advancedtrading/a/051010highfrequency.htm