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Creative Destruction and Industry Life Cycles, HFT Edition

Traders Magazine Online News, April 13, 2017

What follows is a†recent blog post by Streetwise Professor Craig Pirrong, a market structure expert from the University of Houston, who dicusses the nature of cyclical market transitions. He remarked on seeral HFT-related stories - Virtuís bid for KCG, Quantlabs buying HFT company Teza and Interactive Brokers exiting options market-making. What follows are Pirrong's driect thoughts and musings.

No worries, folks: Iím not dead! Just a little hiatus while in Geneva for my annual teaching gig at Universitť de GenŤve, followed by a side trip for a seminar (to be released as a webinar) at ESSEC. The world didnít collapse without my close attention, but at times it looked like a close run thing. But then again, I was restricted to watching CNN so my perception may be a little bit warped. Well, not a little bit: I have to say that I knew CNN was bad, but I didnít know how bad until I watched a bit while on the road. Appalling doesnít even come close to describing it. Strident, tendentious, unrelentingly biased, snide. I switched over to RT to get more reasonable coverage. Yes. It was that bad.

Craig Pirrong

There are so many allegations regarding surveillance swirling about that only fools would rush in to comment on that now. Iíll be an angel for once in the hope that some actual verifiable facts come out.

So for my return, Iíll just comment on a set of HFT-related stories that came out during my trip. One is Alex Osipovichís story on HFT traders falling on hard times. Another is that Virtu is bidding for KCG. A third one is that Quantlabs (a Houston outfit) is buying one-time HFT high flyer Teza. And finally, one that pre-dates my trip, but fits the theme: Thomas Peterffyís Interactive Brokers Group is exiting options market making.

Alexís story repeats Tabb Group data documenting a roughly 85 percent drop in HFT revenues in US equity trading. The Virtu-KCG proposed tie-up and the Quantlabs-Teza consummated one are indications of consolidation that is typical of maturing industries, and a shift it the business model of these firms. The Quantlabs-Teza story is particularly interesting. It suggests that it is no longer possible (or at least remunerative) to get a competitive edge via speed alone. Instead, the focus is shifting to extracting information from the vast flow of data generated in modern markets. Speed will matter hereĖhe who analyzes faster, all else equal, will have an edge. But the margin for innovation will shift from hardware to data analytics software (presumably paired with specialized hardware optimized to use it).

None of these developments is surprising. They are part of the natural life cycle of a new industry. Indeed, I discussed this over two years ago:

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