Algorithmic trading to replace humans in the stock market

Sep 14, 2011 by Deborah Braconnier report
stock market

(PhysOrg.com) -- The UK Government’s Foresight panel, led by Dame Clara Furse, has released a working paper that points out that algorithmic trading, or high frequency trading, will soon replace human decision making when it comes to the stock markets. Many countries have already begun replacing humans with one third of the UK trading going to computers and three-quarters of trading in the United States being computer generated.

The Foresight panel warns that this transition to algorithmic trading has its benefits and risks. They have found instances where computer trading can increase volatility in the market and cause massive damage. One example is what is known as self-reinforcing feedback loops. In this case, small changes such as data delays, loop back on themselves and create a bigger change. Normalization of deviance can also occur where risky events are seen as normal until the inevitable crash of the market occurs.

Some benefits the panel sees are an improvement in liquidity, lower costs of transactions and greater market efficiency.

The trend toward more and more algorithmic traders and the reduction in need for front-line traders is expected to increase. Similar to the use of physical robots in the manufacturing industry replaced human workers in places like automobile plants throughout the 20th century; the 21st century will likely bring the replacement of human workers throughout the global financial markets. The paper notes that while humans will be replaced in trading, the need for algorithm developers will be increased.

The Foresight panel notes that human workers are made with hardware that is too slow and runs on limited bandwidth in comparison to their computer counterparts.

The current paper from the Foresight panel is a work in progress designed to add to the growing evidence on the pros and cons of computer . The final report is expected to be released in the Fall season of 2012.

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tpb
4.6 / 5 (19) Sep 14, 2011
The original idea behind stock markets was to make capital available for companies.
It has now become a way to make money through manipulation.

An example is day traders who make money without producing anything, profiting on quick trades.
Computerized trading has become effectively the same thing.

Short term trading should be prohibited, any stock purchased should have to be held for a minimum time, say a week or month.

This can easily be done now since computers can track all stock transactions.
eachus
2.3 / 5 (7) Sep 14, 2011
An example is day traders who make money without producing anything, profiting on quick trades.
Computerized trading has become effectively the same thing.


Sigh! Capital markets provide liquidity which allows owners of capital to move it to where it is needed, while minimizing their risk.

Anyone who wants to can enter the markets and get paid to accept risk by the workings of the market. If you like to gamble, and have a cool head, you can treat the risk as a positive good. Most people, like me, treat risk as a negative good, but are willing to accept some risk for a higher return on our investment. It takes a lot of work (and study) to keep that risk minimized.

Day traders may appear to take little risk, but unforeseen events that have nothing to do with the stocks traded can result in huge losses. This is known as systemic risk. Aside from that, day traders seek income from arbitrage, basically renting liquidity to other traders.
Nanobanano
4.3 / 5 (8) Sep 14, 2011
tpb:

Yep. 100% agree. Five stars.

Day trading produces "fake" profits which essentially devalue currency. This is one of the "currency scams" I speak of from time to time, including quite literally the currency market itself and the gold market.
Nanobanano
4.2 / 5 (6) Sep 14, 2011
There's also the issue where mutual funds and certain retirement funds which are "profitable" actually eat up as much as half of the profits to the owners and ceos of the financial institutions, who are getting filthy rich from it.

the firms, or at least the CEO and the other top dogs, seem to make money even when none of the clients make money, or even when clients make very little money. I would cite the 401k issue from the economic meltdown. Many of these companies and/or their CEOs remained obscenely profitable, even when the clients lost money. Those companies which were not profitable? No big deal, they got billions of free dollars just because!!

I wish I could get a BILLION FREE DOLLARS to start a business. That would be awesome. I'd spend it wisely.

They gave these crooks a billons of dollars reward for bilking away TRILLIONS of dollars from ordinary citizens, and now, everything just goes on like nobody cares. Media doesn't even mention it much either these days.
tpb
4.4 / 5 (7) Sep 14, 2011
eachus
I never said day traders don't take risk.
Renting liquidity to other traders is part of the problem.
The stock market should provide capital to produce something.

The other problem with the stock market as it is, is the need for immediate profits. This prevents any long term investments like research.
Nanobanano
3.5 / 5 (6) Sep 14, 2011
the rich people and hte financial firms are basically robbing everyone (what else is new) and then telling the normal people, "Oh well, we take your money anyway, and if you don't be a good little peasant we'll take your house too."

your mortagage is rigged.

Do you know your bank OWNS your work place?

If they want to forclose on your house, they can DO IT. It's just one phone call away from your employer to request your TERMINATION, since they OWN your work place through the "grape vine" of companies they've bought out, and then they get your house 3 to 6 months later.

Cattle.

It's that simple. one phone call from your creditor to your employer equals you're fired, so they can take your stuff and sell it back to someone else for a profit, because if you've been paying on it for 15 years, then they've already got back their investment of the loan, may as well steal the house itself back.

These firms own both your bank and your employer. you are a pet. Livestock.
kochevnik
2.6 / 5 (5) Sep 14, 2011
Day trading produces "fake" profits which essentially devalue currency.

There is no such thing as "fake" profits. Traders add liquidity to the market. Otherwise when you try to buy, there will be no sellers. That's what happened in the 1987 stock crash, as well as more recent flash crashes. Bid hunting kills fills for day traders, meaning they can't take profits and may lose the trade. When that happens, traders pull out of the market leaving the market open to manipulators, who find little resistance to crashing the market. This ill-liquidity can cause a chain cascade which can take 60 or 80% out of a market. We may be seeing that in the future, as regulators are clueless.
Nanobanano
3.4 / 5 (5) Sep 14, 2011
Think about it. Slavery was officially abolished...

But if a firm owns your workplace AND your debt, then that makes you their SLAVE by default, and you can't do anything about it.

They can screw you over any way they like, and you can't do anything about it.

As long as they don't "call" you a "slave" they've done no "crime", at least legally, technically.

Ron Paul's audience at the republican primary debate:

speaker: "...should they just let this guy die..."

Wealthy, republican Audience: (cheers, shouts) "...YEAH..."

Cattle. Pet. Slave.

All good descriptions of the average people. Once the wealthy fleece you afew times they ship your ass to the glue factory.
Mahal_Kita
5 / 5 (4) Sep 14, 2011
There's one comment mentioning chain-cascade failure.. As long as algorithms are based on past results statistically this is imminent. There is to date no algorithm that can forcast a chaotic - unstable - system accurately. Look at weather forcasts; basically the same algorythms. But when it misses in a economic environment the damage will be exponential. For human traders this is good news because all they have to do is watch the trends and pick a slice of the curve.
kochevnik
1 / 5 (1) Sep 14, 2011
Short term trading should be prohibited, any stock purchased should have to be held for a minimum time, say a week or month.
This is already in place for stocks with the SEC $25K rule, limiting buy/sell rollovers of a stock to 4 per week. It's worthless and hasn't boosted liquidity, because as usual it targets the wrong parties.
This can easily be done now since computers can track all stock transactions.
Untrue. Dark pools allow parties to trade privately, then dump the net onto the market, spiking prices and diminishing liquidity.
kaypee
5 / 5 (3) Sep 14, 2011
How this doesn't lead to increased market thrashing I don't know.
Pete1983
4.2 / 5 (6) Sep 14, 2011
@tpb - Fantastic first post, I'm really glad somebody got that in before some brainwashed capitalist got in.

Also your first bit of text;
The original idea behind stock markets was to make capital available for companies.
It has now become a way to make money through manipulation.


was utterly perfect. While others have attempted to pick apart the other points raised in your post, the above lines have been left alone as (seemingly) nobody disagrees with that assertion. So as others have said, thank you tpb.

My own thoughts on this are that we're so close to post-scarcity anyway why don't we just get rid of money now? Given that so much industry is dedicated to creating nothing (advertising, wealth creation, etc etc), couldn't we move to a socialist system right now, as all these jobs would become pointless? (I ask in a hypothetical sense, political and societal reasons make this impossible of course, but in theory I think we'd be better off...)
default_ex
not rated yet Sep 15, 2011
Wait. I thought stock trading was originally in place so that people could help businesses they believe will be successful by providing monetary support. It's fine if the technology seeks to help assess the risk, but performing the entire process is ludicrous.
Pete1983
5 / 5 (2) Sep 15, 2011
Wait. I thought stock trading was originally in place so that people could help businesses they believe will be successful by providing monetary support. It's fine if the technology seeks to help assess the risk, but performing the entire process is ludicrous.


I think that is in a way the point. The system has already become so removed from reality that shifting the entire process to an entirely virtual space (i.e. in that space and managed by that space) seems perfectly normal to those who currently take part in the system. It's somehow funny, just not ha ha funny.
dieseltaylor
5 / 5 (4) Sep 15, 2011
There can be no doubt that parts of the financial world have entered into a kind of insanity which is actually dangerous to capitalism in the sense of supporting industry.

Reported on the BBC in the last few days was an interview with a company who are building a further sub-Atlantic network so their clients can earn hundreds of millions of dollars more because they will save 5 microseconds on trading time [AFAIR].

It is not often appreciated that the algorithms etc are in a sense front-running normal purchases and that is why speed is of the essence. TO convert that to an analogy it is if in a normal market you went to buy something and as you indicated your purchase for potatoes someone leapt in and bought the potatoes and then offered the bag to you at a penny more. The effort of going elsewhere is obvioulsy not worth the effort so you buy and pay the penny extra. So all real purchasers pay slightly over the odds and these companies leech off the actual market.

Code_Warrior
3 / 5 (3) Sep 18, 2011
The only difference between human traders and algorithmic traders is speed of execution - therein lies the problem.

To me, the solution is simple - Algorithms should be allowed to make buy/sell recommendations, but not execute trades. A human needs to press the button to execute the trade. There may be people employed just to click the button every single time the algorithm says to, but the reaction time of the human button clicker may slow things down enough for market managers to head off algorithmic generated catastrophes before they plunge too deep into a positive feedback loop.
xznofile
not rated yet Sep 18, 2011
This looks like a way to own the money spigot. my bet is it will become a tool for governments to regulate economies and thus a tool for individuals within the government. If ever a project deserved open source oversight, this is it. Everyone will want to manage it. (my idea, so put my name at the top)