Design and Build a High-Frequency Trading Platform: High-frequency

trading platforms are used in financial markets to execute trades at

extremely high speeds.

Background of the Study:

High-frequency traders (HFTs) are defined by the Securities and
Exchange Commission (SEC) in their Concept Release on Equity Market
Structure (2010) as professional traders who engage in strategies that
generate a large number of trades on a daily basis. The SEC document
outlines several characteristics that are commonly associated with HFTs,
including the use of high-speed and sophisticated computer programs for
generating, routing, and executing orders; the use of co-location services and
individual data feeds offered by exchanges and others to minimize network
and other types of latencies; very short time-frames for establishing and
liquidating positions; the submission of numerous orders that are cancelled
shortly after submission; and ending the trading day in as close to a flat
position as possible, which means not carrying significant, unhedged positions
overnight.
High-Frequency Trading (HFT) gained prominence after the "Flash
Crash" in the United States on May 6, 2010. During the "Flash Crash," the
Dow Jones Industrial Average dropped by approximately 9% within 20
minutes, which brought HFT to the attention of the public, regulators, and
academia (SEC, 2010). In addition, the recent financial crisis raised the critical
question of whether financial markets, in general, and HFT, in particular, are
serving the real economy. Unfortunately, much of the public discussion on
HFT relied on generalizations rather than solid academic research, which
created a vague image of HFT. This also resulted in the imprecise use of key
terminologies that are commonly used in the field of electronic trading. In our
article, we aim to address these issues by providing a clear understanding of
how HFT is designed both from a trading strategy perspective and a
technological perspective, as well as how it operates in today's financial
markets.
High-frequency traders use various trading strategies that can be
combined. Some strategies are passive, like placing limit orders, while others
are aggressive, like providing immediately executable trades. The CFTC
regulates HFT in derivatives markets, including futures, swaps, and options,
while the SEC regulates HFT in securities and some derivatives markets.
Trading in these markets has become highly automated, with orders
transmitted and executed through high-speed networks. Recent research
shows that profits among HFT traders have been shrinking due to increased
competition, as high-speed algorithms and human traders adapt and develop
new strategies to counter predatory practices. For instance, a study in
January 2016 found that HFT profits have decreased due to an increase in
competition.
In October 2012, the CFTC Technology Advisory Committee released
a preliminary definition of high-frequency trading which intentionally excludes
holding period and portfolio turnover frequency as defining attributes. Rather,
it defines high-frequency trading as a type of automated trading that uses
algorithms for decision-making, order initiation, generation, routing, or
execution for each individual transaction without any human intervention. To
be classified as high-frequency trading, it must meet several criteria, including
the use of low-latency technology, high-speed connections to markets for
order entry, and high message rates for orders and cancellations.
The majority of research studies suggest that HFT activities lead to a
decrease in spreads, with a few exceptions. Researchers like Jovanovic and
Menkveld (2015) found that passive HFT activities reduced effective spreads
in the Dutch equity market. Similarly, Bershova and Rakhlin (2013) showed
negative correlation between HFT activities and bid-ask spreads in
international datasets from Tokyo and London. However, Malinova et al.
(2013) found that effective spreads increased significantly when trading
activities of intensive algorithmic traders (iATs) decreased using data from the
Toronto Stock Exchange. Stoll (2014) also reported that the advent of HFT
resulted in narrower spreads, which he attributed to a decline in trade sizes.
Riordan and Storkenmaier (2012) analyzed 98 stocks listed on Deutsche
Boerse's HDAX segment of Germany, which had recently upgraded its system
to reduce the latency of electronic trading, and showed that effective spreads
decreased after the technological upgrade. The authors also found that the
price impact dropped after the upgrade. Finally, Boehmer et al. (2015)
analyzed 42 equity markets and found that effective spreads decreased for
69% of the markets when colocation services were introduced.
Biais, Foucault, and Moinas (2011) proposed a model where High-
Frequency Trading (HFT) provides an intermediation function that facilitates
traders in finding counterparts, resulting in profitable trade. However, HFT can
act on new information rapidly, leading to adverse selection costs.
Additionally, investing in HFT technology requires significant fixed costs,
making it practical only for large institutions. Smaller firms and investors bear
the costs of adverse selection from HFT. The authors also modeled the
competitive aspect of HFT and found that their model has multiple equilibria,
some of which show socially inefficient overinvestment in HFT.
High-frequency traders (HFTs) benefit investors by increasing market
liquidity, but some people want to slow down HFTs by imposing minimum
order standing times. However, if this were to happen, HFTs would quote less
aggressive prices for smaller trades to avoid losses, ultimately increasing
transaction costs for investors. Instead of imposing minimum standing times,
a random delay of 0-10 milliseconds should be applied to all orders to prevent
an arms race among HFTs that could decrease competition and increase
transaction costs. Buy-side traders may complain about HFTs because they
are caught between portfolio managers and the markets, but regulators
should remember that traders have complained about market structures for
years, and they are not always right. Regulators must protect market liquidity
by ensuring that many HFTs will always compete to fill the orders of public
investors.

General Objective: The general objective of this research paper is to design

and build a high-frequency trading platform that can execute trades with low
latency and high accuracy.

Specific Objectives:
1. To conduct a comprehensive review of high-frequency trading platforms
and the technologies used to build them.
2. To design and build a prototype high-frequency trading platform that can
execute trades with low latency and high accuracy.
3. To evaluate the performance of the developed high-frequency trading
platform and compare it with existing solutions.

Research Gap: While high-frequency trading platforms are becoming

increasingly popular, there is still a lack of research on the design and
development of such platforms. Most of the existing research has focused on
the analysis of market data and the development of algorithms. There is a gap
in research on the design and development of hardware and software
components required for high-frequency trading platforms. This research
paper aims to fill this gap by providing a detailed analysis of the design and
development of a high-frequency trading platform.

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