Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 68

Respect for markets and judging HFT

AQR Capital Management marked its tenth year of operations in Australia with a series of thought-provoking presentations in June. Over the ten years, Australia and New Zealand have grown to become AQR’s largest client base outside of the US, representing nearly one sixth of the firm’s total assets under management. Among the presenters were two of AQR’s principals, David Kabiller who spoke on what makes a good investment strategy and Michael Mendelson on the misconceptions of High Frequency Trading (HFT).

Long term optimism and short term paranoia

Kabiller, who heads up Client Strategies for AQR, oversees client relationships, business development and strategic initiatives. In his presentation, Kabiller said that “long term optimism and short term paranoia” is a core element of a good investment strategy. He discussed AQR’s development and the lessons from his experience that he brings to investors.

According to Kabiller a ‘depression era mentality’ and a respect for markets and competition are things that inform a sound investment strategy. Investors must have the discipline to follow their chosen path while having the humility to adapt. He also spoke of AQR’s desire and curiosity to understand markets.

AQR has itself experienced a short-term crisis while working towards a long term goal. Founded in 1998 during the tech bubble, AQR saw their portfolio lose nearly 40% from 1998 to 2000 before rebounding with 79% growth until 2001. Kabiller said that the lesson to be taken from this volatile period is to maintain a great respect for markets and competition.

In his presentation Kabiller also touched on diversification and its importance in today’s market. He referred to a “very big retirement problem in the world”, suggesting that too many people still have undiversified investment strategies. He believes that people should have a respect for the market in aggregate and work to have a better understanding of risk and return sources.

Kabiller suggests that an allocation to hedge funds is necessary for diversification as they are not as reliant on economic health as other traditional assets. He did, however, warn investors to be wary of hedge fund managers using leveraged strategies with high beta as these funds have a greater risk of being at the mercy of a falling market.

High Frequency Trading shouldn’t cause panic

Michael Mendelson showed his support for High Frequency Trading (HFT) while speaking at AQR’s seminar.

Mendelson said that markets have been under more criticism than ever before but defended HFT for the liquidity it brings to the market. He believes that the technology used by high frequency traders and the nature of their strategies have lowered transaction costs for investors and been largely beneficial.

Mendelson addressed the misconceptions of HFT, stating that high frequency trading is a strategy and not low latency technology. Furthermore, he made a point to mention that quantitative and algorithmic trading is not high frequency trading.

In reference to Michael Lewis’ new book ‘Flash Boys’ which has recently brought some negative media attention to high frequency traders, Mendelson states that the claims made by Lewis about the profits of high frequency traders are greatly exaggerated and that the reality is a US$1.1bn annual profit for the industry as a whole.

Mendelson condemned what he called the ‘salacious criticism of markets’ and said that the negative publicity directed at high frequency traders has largely stemmed from people who have had their business model disrupted.

When asked about how investors can be certain that high frequency traders aren’t accessing information on the way to the exchange Mendelson responded, “it would be illegal” and he would find it hard to believe that traders who wanted to remain in the market would risk it.

Mendelson did point out however that investors don’t live in a market that is free of problems. For investors who wanted reassurance from their fund managers, he suggested that they ask managers what they are doing to protect themselves from systems risk and to ensure that they understand the markets they are trading in.

While concluding, Mendelson urged people to resist any proposals by governments, regulators or exchanges to introduce transaction taxes as these would be detrimental to investors worldwide. As well as simultaneously taxing banks and hurting high frequency traders, they are ultimately a tax on all investors.

 

Miles Hellyer is the founder of Chalk Marketing, a Sydney-based marketing agency.

 

3 Comments
Paul
July 02, 2014

One of the more fallacious arguments is that of HFT being a "liquidity" provider.
Proponents of HFT misuse this term as a synonym for velocity, which does not of itself provide liquidity. Liquidity in my view is the ability to trade an asset, in various volumes, without affecting it's price. HFT attempts to capture small pricing opportunities in small increments as opposed to providing "liquidity" in meaningful volume. The increasing use of dark pools would appear to highlight institutional investors lack of confidence in market "liquidity" despite the no doubt plethora of (perfectly legal as they don't want to be in trouble and are completely able to self regulate) HFT driven "bids/"offers".

Economist
June 27, 2014

Fancy someone making money out of trading stocks. Shame, shame, shame.

Oh wait, that's what stock brokers have been doing for years. Aren't HFT just fast moving stock brokers?

Seems to me that it's brokers and other short term traders who are losing out to these guys. An investor just needs to place a limit order so they don't ever pay more than they want to or sell at a lower price than they want to, and they aren't hurt at all.

Personally I don't give a fig if brokers and short term traders make less money than they used to. And any investor who doesn't use limit orders only has themselves to blame if they get set a couple of cents away from their target price.

Methinks that most of the hype about this is due to ignorance, fed by Michael Lewis' insatiable need to make money writing books that 'blow the lid' on something, even if the pot wasn't actually boiling.

Tim
June 27, 2014

If HFT does not infact give the users an unfair advantage, why then do they spend tens of millions of dollars on the most powerful computer systems that money can buy, utilise the fastest pipes direct to the exchange, spend millions on employing the best software programmers and IT experts, etc etc.?

Do they undertake this expenditure for the purely selfless reason as to provide liquidity to the market? Gee what nice, caring guys. All that effort for the glory of liquidity. Like a king feeding scraps to the poor.

As to the profitability, perhaps ask Danny Bhandari?

 

Leave a Comment:


RELATED ARTICLES

How ASIC defines ‘hedge funds’ and what it means to you

The tortoise wins in investing

The problem with concentrated funds

banner

Most viewed in recent weeks

The nuts and bolts of family trusts

There are well over 800,000 family trusts in Australia, controlling more than $3 trillion of assets. Here's a guide on whether a family trust may have a place in your individual investment strategy.

Welcome to Firstlinks Edition 581 with weekend update

A recent industry event made me realise that a 30 year old investing trend could still have serious legs. Could it eventually pose a threat to two of Australia's biggest companies?

  • 10 October 2024

Welcome to Firstlinks Edition 583 with weekend update

Investing guru Howard Marks says he had two epiphanies while visiting Australia recently: the two major asset classes aren’t what you think they are, and one key decision matters above all else when building portfolios.

  • 24 October 2024

Preserving wealth through generations is hard

How have so many wealthy families through history managed to squander their fortunes? This looks at the lessons from these families and offers several solutions to making and keeping money over the long-term.

A big win for bank customers against scammers

A recent ruling from The Australian Financial Complaints Authority may herald a new era for financial scams. For the first time, a bank is being forced to reimburse a customer for the amount they were scammed.

The quirks of retirement planning with an age gap

A big age gap can make it harder to find a solution that works for both partners – financially and otherwise. Having a frank conversation about the future, and having it as early as possible, is essential.

Latest Updates

Planning

What will be your legacy?

As we get older, many of us start to think about how we’ll be remembered by those left behind. This looks at why that may not be the best strategy to ensure that you live life well and leave loved ones in good stead.

Economy

It's the cost of government, stupid

Australia's bloated government sector is every bit as responsible for our economic worries as the cost of living crisis. Grand schemes like the 'Future Made in Australia' only look set to make it worse.

SMSF strategies

A guide to valuing SMSF assets correctly

SMSF trustees are required to value all fund assets, including property, at market value when preparing the fund's financial statements each year. Here are some key tips to ensure that you get it right.

Economics

Australia is lucky the British were the first 'intruders'

British colonisation's Common Law system contributed to economic prosperity, in contrast to Latin America's lower wealth under Civil Law. It influenced capitalism's success in former British colonies, like Australia.

Economics

A significant shift in the jobs market

The expansion of the 'care sector' represents the most profound structural change to Australia's job market since the mining boom. This analyses how it's come about and the impact it will have on the economy.

Shares

Searching for value in tech stocks

Just because a stock is cheap doesn't necessarily make it good value. This uses case studies in the tech sector to help identify when stocks trading on 30x earnings may be inexpensive and when others on 10x may be value traps.

Investing

Are more informed investors prone to making poorer decisions?

Finance Professor Michael Finke recently discussed the double-edged sword of taking an interest in your investments, three predictors of panic selling, and why nurses tend to be better investors than doctors.

Sponsors

Alliances

© 2024 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.