buzzin pt 2
cont ^
1-14•HFTs primarily focus onmicrostructure variableswhen makingdecisions: price, quantity, spreads, trading interest, incomingorders, order imbalance,not on any fundamental info •Very short time-frames for establishing and liquidatingpositions •Most start and end the day with zero inventory •Themajorityof equity trading in the US is done by HFTs
cont ^
1-15•There are hundreds of HFT firms, but only a handful of themmake any money •Major HFT firms include:VirtuFinancial, Citadel Securities, Two SigmaSecurities•Annual profits up to $5bn in 2009 and $1.25bn in 2011, but has beendeclining because of competition and regulations •Often aim to caption a fraction of a cent in profit •Make up low margins withhigh turnoverrates •Research has shown that manyHFTrsearn less than 1/100th of apenny ($0.000072) per dollar traded
cont ^ pros
1-16•Benefits include: •Reduced transaction cost due to competition •Market making •Provide liquidity, in normal times •Contribute to price efficiency (arbitrage disappears prettyquickly)
conts ^ cons
1-17•Cons: •Lack of regulations and transparency in their practicesencourages illegal activities •Hard to catch illegal activities •Strain exchange infrastructure and cause glitches on exchanges •The submission of numerous orders that are canceled shortlyafter submission •96% of orders placed on exchanges today get cancelled(comparing with 5% in 1990s and 10% in early 2000s) •Withdraw from the market when they needed the most •Systemic risk (Flash Crash of May 2010) •May increase adverseselection (against uninformed traders) •Can take advantage of dark pools •Impact on market quality depends on HFT strategy •Not all HFTs are alike
cont ^
1-19•Concerns over HFTs (continued): •Fake (duplicate) liquidity: duplicating an order on multipleexchanges in order to increase the probability ofexecution, but then rapidly canceling the remaining orderswhen one gets executed •Front-running: involves a HFT firm racing ahead of a largeclient order on an exchange, scooping up all the shares onoffer at various other exchanges (if it is a buy order) orhitting all the bids (if it is a sell order), and then turningaround and selling them to (or buying them from) theclient and pocketing the difference.
hft
1-2•HFTs often make money on the disequilibrium of Sand D, using arbitrage and speed as their tools •HFT allows traders to profit from even the smallestprice movements •HFT scan multiple securities on multiple exchangesand markets •Allows traders to capture more trading opportunities •HFTs often scan news and trend followings •HFT often acts as a market maker (generates twoorder placements-buy low and sell high)
rise of the machines
1-3•Trading environment has changed dramatically in the past 20 years as the result of technological advances and nearly instant availability of information •All trading is done online now •Many sophisticated traders now use supercomputers programmed to run on proprietary algorithms to execute trading strategies •The overall trading environment became very complex with multiple venues, pricing schedules, etc .•Computational power requirements are tremendous (to compare order flow onmultiple venues) •Speedbecame crucial (to take advantageof trading opportunities)
terminology
1-4•Electronic trading:refers to ahumanentering a command into anelectronic platform (to buy or sell asecurity) •Automatedtrading(oralgorithmictrading):refers to any trading activitycarried out by an automatedcomputer systemusing a defined setof instructions (algorithms);designedfor LT trading•High frequency trading:refers to thesubtype of AT that focuses on thespeed of accessing information andplacing a trade; designed for very STinvesting
cont ^
1-5•HFTs purchase access to firms' clients •Dark Pools •Became prime hunting ground for predatory HFTs •NY Attorney General v Barclays •Barclays attracted HFTs with special privileges and private tradeinformation of other investors, misled the pool participants •Robinhood •Sells customer's orders to HFTs (like Citadel Securities andVirtu)instead of sending them to stock exchanges, and earnedmillions on that •HFTs benefit the market through reducing arbitrage
algorithmic trading stragegies
1-6•Algorithmic agencyis not an attempt to make a profit,it is an attempt not to loose money at orderplacement •Market impact (aka price impact) •Hide trading intensions •Other reasons •Used by brokers, large institutional investors, and marketmakers
cont ^
1-7•Various algorithmic trading strategies •Momentum trading (follow a market trend) •Sentiment analysis (analyze large quantities of info todetermine the overall sentiment) •Seasonality strategies (exploit seasonal market movement) •Arbitrage opportunities (exploit price differences indifferent markets) •...and many, many more
algorithmic pros
1-8•Pros:•Facilitates trading •Providesliquidity •Reducescost of trading (bid-ask spreads) •Automation (faster and easierexecution)
flash crash
1-9•On May 6, 2010,NavinderSarao, a futures trader in theLondon suburbs, attempted to "spoof the market" byquickly buying and selling hundreds of E-mini S&P Futurescontracts through CME •1,000s of contracts, $200mil worth of bets that the market would fall,replaced/modified them 19k times, planned to cancel later •He initially lied and said that these were erroneous trades•Was found guilty of fraud, market manipulation (22 criminal counts) •Aftermath: •Trillion dollar stock marketcrash that lasted 36 minutes •DJIA fell more than 1,000 points in 10 minutes (9% of its value) •Prices of stocks, stock index futures, options, and ETFs were volatile •Algorithms freaked out, pulled out of the market
crypto issues
8-17 •CCs were designed to be safe havens for investors-due to the scarcity feature and independence from governments and central banks •However, recent events have shown that this may not be the case...Is BTC a safe haven?black Swan •Plus,volatility has always been a concern for non-pegged cryptocurrencies (speculations?) •This↑and lack of regulations are the reason why financial advisors do not recommend including CCs in investors portfolios, despite CCs being recognized as an economic asset by govts, individuals, and institutions
crypto issues
8-20 •IRS: •Bitcoin is now treated as "property" (that is, like a stock)and any capital gain is taxable (regardless of the source of gain: mining, crypto-for-crypto exchange, or payment forg&s) •Bans •India has recently introduced a law that would effectively ban possession, trading and mining of CCs, calling CCs a"Ponzi Scheme" •China bans mining and trading but not possession
cont ^
8-21 •CC derivatives •Why do we need derivatives in general? •Despite failure of Bitcoin ETF launch, CC derivatives marketisbooming •Examples: Bitcoin and major altcoin futures on CME; LedgerX(instit. crypto derivatives provider) started trading CC swaps and options •Pros: Can boost liquidity and trading volumes of altcoins; generate more interest in CCs from the regulatory standpoint •Cons: lack of regulations and time it takes to design and implement them
CONT ^
8-22 •Lack of regulations a major issue •Crypto-currency Act of 2020 (CCA of 2020andCCA of2020 DOA) •Bitcoin ETF creation attempts •CC Exchanges Regulations: •Know Your Customer (KYC), anti-money laundering (AML)regulations for exchanges, and combatting the financing of terrorism (CFT) •Thesetasksare accomplished in 4 steps: customer acceptance policy, customer identification program, monitoring of transactions, and risk management
cont ^
8-22•Examples of stablecoins include: •Tether-CC designed to be pegged to US $ (1USDT=$1) •DigixGold Tokens (DGX)-pegged to gold•DAI-pegged to Ethereum using "smart contracts" •Not allstablecoinsare "stable" •NuBitswas pegged to USD, failed in 2018 •Stablecoinproject Basis raised $130mil+ from venture capitalist but had to shut down in 2018 due to US regulatory concerns
ICO regulations
8-23 •Although ICOs aren't regulated, the Securities andExchange Commission (SEC) can intervene .•For example, the maker of Telegram raised $1.7 billion in anICOa few years ago,but the SEChalted the project due to alleged illegal activity on the part of the development team. •With the recent boom inEthereum-based ICOs,regulators have begun to turn their attention toward CCs .•Recent increase in ICOs has meant an increase in"pump and dump schemes"where the tokens have no inherent value.
cont ^
8-24 •Security tokens--represent legal ownership of a digital or physical asset such as real estate or artwork that has been verified on the blockchain. •Example: tokens that are presented to investors in an ICOfor the exchange of their money.
cont ^
8-24•While it's possible to create an ICO that's legal inthe United States, the SEC follows a set of rules known as the Howey Testto determine if the ICO is a tradable security or not. •ICOs that fail the Howey Test are subject to all the same regulations as public stocks, and they must be registered and follow strict securities law
cont ^
8-25 •Non-Fungible (Unique) Tokens--token that represents something unique and not interchangeable. •The most popular example of NFT is the virtual cat game-crypto kitties. Even though there are thousands in existence, each one of them is unique, with its own fur color, eye color, special features, fur pattern, and facial expression. •NFTs can also be used in art, real estate, and memorabilia. Tickets, identity, and certification could also see NFTsplaying a role
cont ^
8-25•According to The Howey Test, a transaction is an"investment contract" if... 1.Money is invested in a common enterprise or company 2.The investor expects profits from the investment 3.The profit comes from the efforts of someone other thanthe investor •#2 is the most important.If you're promoting yourICO as a way to make money, then you are promoting a security, according to the SEC .•If, on the other hand, you're promoting your new tokens as a pre-order of a future product with no future return on investment, then you're likely in the clear with regulatory compliance.
crypto exchanges
8-26 •A business that allows customers to trade cryptocurrencies for other assets (conventional fiat money or other digital currencies). Two types: •a market-maker (charge bid-ask spreads) •a matching platform (simply charges fees)
ICO's
8-26•Initial Coin Offering: is the cryptocurrency industry equivalent to anIPO .•ICOs act as a way to raise funds, where a company looking to raise money to create a new coin, app, or service launches ICO. •Interested investors can buy into the offering and receive anew cryptocurrency token issued by the company. •This token may have some utility in using the product orservice the company is offering, or it may just represent astake in the company or project. •ICOs are, for the most part, completely unregulated, so investors must exercise a highdegree of caution and diligence
bitcoin
Acquiring bitcoin: •Mining •Takes about 10 minutes and 72k GW of power tomineBTC•Special supercomputers exist for mining, so no reason to mine using your PC •In general, not an option anymore b/c of the decreasing supply algorithm--every new coin is harder to mine--the cost of electricity required to mine 1BTC is not worth it •Other cryptocurrencies can be mined, but they are still cheap so, again, no reason to mine, buy instead •Transfer •Buyingon cryptocurrency exchange
ICO process
Choose the launching platform: •Established platforms like Ethereum, Waves, NEM, or NOT provide tools and services to launch the ICO •Create demand for your tokens •Get it listed on at least one exchange (Binance,Poloniex,Bitfinex, etc.)
cont ^ concerns
Concernsover HFTs revolve primarily around theirproprietary algorithms that they keep secret •Stuffing: HFTs submit and cancel so many orders to themarket that it becomes congested to crowd out slowtraders and competitors. •Smoking: Post alluring orders for slow traders and thenrevise and repost at worse terms. They hope to "trick"market orders •Spoofing: If HFT wants to buy, it will place large limit sellorders away from the quotes to scare other traders intoselling. HFT picks up the sell order with its limit buy.
algorithmic cons
Cons: •Strains exchangeinfrastructure •Increasedvolatility in themarkets •Require constantmonitoring,adjustment, improvement,and reinventing •Short life-span of algorithms •Freakout during uncertainmarketconditions-> liquiditycan disappear at anymoment
blockchain
Continuously growing list of records, or blocks of information, linked by a large network of individual computers (to form one large"supercomputer" or"supernetwork")and secured using cryptography •At its core, it is a decentralized ledger that records transactions b/w two parties in a permanent way without needing third-party authentication •The idea behind blockchain can be traced back to 1991when Stuart Haber and W. ScottStornettadescribed the first work on a cryptographically secured chain of blocks •But the technology gained significance in 2008 whenSatoshiNakamotopublished the white paper on Bitcoin
cryptocurrencies
Cryptocurrency--is a digital asset designed to work as a medium of exchange that uses strong cryptography (usually through blockchain) to secure financial transactions,control the creation of additional units, and verify the transfer of assets. •There were many attempts to create a digital currency in the past, but all failed (fraud, need for a trusted third party) •Then, in 2008, SatoshiNakamoto(anonymous programmer)introduced Bitcoin-a "P2P electronic cash system."
blockchain uses
Cybersecurity: •Estonia has implementedblockchainin passport control and voting•MedRecis a project by MIT that will be used by the healthcare industry to ensure confidentiality and authenticity during data sharing •Microsoft looks into creating Digital ID (prevents ID theft) •Healthcare: •Gem-This startup is working with the CDC to put disease outbreak data onto blockchain which it says will increase the effectiveness of disaster relief and response.
blockchain pros
Decentralized(no middlemen b/w counterparties, so no extra fees and waiting times, no central authority) •Durability and Security(impossible* to fake or steal a single record-need to do it on all computers) •Transparency(anyone can get access to the ledger,but there's no personal identifiable info) •Variety of diverse real-life applications •See the following slides
other cryptos
Ethereum •open-source, public, blockchain-based computing platform featuring executable "smart contracts," that generates cryptocurrency called Ether; developed in 2013 •"Smart contract" is computerized transaction protocol that executes the terms of the contract (specify payment terms, terms of enforcement, etc.) •Litecoin•Early spinoff of Bitcoin (almost identical to BTC), released under MIT license in 2011 •Faster transactions than with Bitcoin
cont ^
Financial Services: •Barclays has launched a number ofblockchaininitiativesinvolving tracking financial transactions, compliance and combating fraud. •Maersk-The shipping and transport consortium has unveiled plans for a blockchain solution for streamlining marine insurance. •Augur-Allows the creation of blockchain-based prediction markets for the trading of derivatives and other financial instruments in a decentralized ecosystem
bitcoin volatility
First major Biticoin crash in July 2018 is explained by an increase in regulations and investor psychology •Ban of ICOs and CC advertising at that time •Ban of ICOs in some countries (China, S Korea) at that time •US introduced tax on capital gains from CC •At "psychological mark" price of $20k people decided to cash out, but realized how illiquidbitcoinstruly are and started panicking
high frequency trading
HFTis a subtype of algorithmic trading that focuses on veryhigh speeds of generating, routing, & executing orders •How fast? They operate in a nanosecond environment (10-9seconds) •Blinking takes 400mil nanoseconds (or 400 milliseconds) •For HFTs,it'snot important to moveas fast as possible, but rather to makebest possible movefaster than others •How many orders? Hundreds of millions of orders a day •How do they achieve this? •They rely on very expensive supercomputers •They rely on sophisticated, proprietary algorithms •They rely onco-location*(locating as close to the exchange aspossible to minimize latency b/w the computer and exchange servers) •They rely on individual data feeds sold by exchanges (again, tominimize latency)
bitcoin cons
Low liquidity(easy to buy, but very difficult to sell, hard to convert to cash) •Slow technology(takes1 hour for 1 transaction to register in all wallets) •Not completely anonymous(your identity & history of your BTC are revealed when you try to cash them out) •Not backed by a stream of income(like stocks or bonds) or by governments(like treasure securities or money) •Competition from other currencies (altcoins) •Used in illegal activities(extortion; countries like Russia use them to navigate past int'l sanctions) •Volatility •Not such a safe haven*
cont ^
Manufacturing and industrial •SKUChain-allows tracking and tracing of goods as they pass through a supply chain. •Blockverify-Ablockchainplatform which focuses on anti-counterfeit measures, with initial use cases in the diamond, pharmaceuticals and luxury goods markets. •Government: •Estonia-The Estonian government has partnered with Ericsson on an initiative involving creating a new data center to move public records onto the blockchain •Govcoin-The UK Department of Work and Pensions is investigatingusingblockchaintechnology to record and administer benefit payments •Followmyvote.com-Allows the creation of secure, transparent voting systems, reducing opportunities for voter fraud and increasing turnout through improved accessibility to democracy
cont ^
Media •Can be used to verify the authenticity of art •Kodak-Kodak recently sent its stock soaring after announcing that it is developing a blockchain system for tracking intellectual property rights and payments to photographers .•Ujomusic-Founded by singer-songwriter Imogen Heap to record and track royalties for musicians, as well as allowing them to create a record of ownership of their work.
bitcoin
Most popular digital currency •Itis not tied to any country•Not subject to regulations*, decentralized •Givessomeanonymity during transactions •Finite number of coins :•Finite number of coins: 21million BTC can ever exist •18.7million BTC currently in existence (89%) •2.3million left to be mined •Record keeping will then be rewarded solely by transaction fees •Non-inflationary coin-the price can be driven up by scarcity •1,800BTC are mined per day•850k BTC were stolen in the Mt.Goxhack in 2014,120k were stolenfromBitfinexin 2016
cont ^
Mt.Gox(Japan): •WAS the world's largest Bitcoin exchange, launched in 2011 •By 2013 was handling 70% of all BTC transactions•In 2014, suspended trading, closed its website and exchange services, and filed for bankruptcy •In 2014, Mt.Goxannounced that ~ 850k BTCs (~$450mil atthe time) were missing and likely stolen, possibly due to fraud,theft, and mismanagement •200k BTCs have since been "found"
blockchain cons
No middlemen? •Secure, but not immune to hacking •"51% attacks" are theoretically possible •Theft of private keys that keep private funds safe •Lack of regulations •As the result, trust issues and relative lack of popularity •ICO scams •Energyuse •Uses a LOT of energy
ICO process
Publish a whitepaper •outlines what the project is about, how much $ is needed,how many of the virtual tokens the founders will keep, whattype of money will be accepted, and how long the ICOcampaign will run for •During the ICO campaign, "investors" buy some ofthe project's coins. •These coins are referred to as tokens and are similar toshares of a company sold to investors in an IPO. •If the money raised does not meet the minimum funds required by the firm, the money may be returned to thebackers and the ICO is deemed unsuccessful
cont ^
Real Estate: •ShelterZoomis aiming to put all the payment and property management processes onEtheriumblockchain. It would provide a platform for buyers, sellers, real estate agents, renters, etc., to access legal documents, property titles, mortgages, home inspection reports,etc. •BitofPropertyis a Singapore-based company that has built blockchain crowdfunding platform where users can invest in rental property and get monthly payments from it
bitcoin pros
Secure •Uses blockchain technology •Offers partial anonymity •Wallet owners are unknown •Finite number of coins •Anti-inflationary properties (as opposed to there being no limit to the amount of money central banks can issue) •Scarcity •Modeled after precious metals (the more you mine, the harder it gets to mine further, and scarcity gives value) •Safe haven in difficult times*
CC used for illicit activities
Silk Road, which the FBI shut down in October2013.3 In 2017 U.S. Department of Justice DrugEnforcement Administration issued a report concluding"...virtual currencies, such as Bitcoin, enable transnational criminal organizations to easily transfer illicit proceeds internationally." •Special Counsel Robert Mueller, in an Indictment charging twelve Russians with unlawfully interfering in the 2016 U.S. elections, alleged that more than$95,000 in Bitcoins "facilitate[d] the purchase of infrastructure used in their hacking activity." •Ransomware
current issues
Speed •Co-location(locating as close to the exchange as possibleto minimize latency b/w the computer and exchangeservers) •Exchanges allow to co-locate for a fee. Is it fair?•Use of microwave antennas, lasers, advanced kinds offiver-optic cable, and satellites •Why the speed is important? •Access to data feeds •Access info and make decisions faster than others •1/1000 sec-> $100mil/year in earnings
other digital assets
Stablecoins--CCs designed to minimize the volatility of the price of the stable coin, relative to some "stable" asset •Can be pegged to a CC, fiat money, or to exchange-traded commodities (precious metals or industrial metals) .•Concept developed in 2011•Pros: Create stability in CC trading pairs, can be used in daily transactions •Cons: centralized (beats the purpose of CC), requires 3rdparty, not very popular yet
cont ^
Utility tokens-digital assets designed to be spent within a certain blockchain ecosystem •Examples include: •Sia(a decentralized, peer-to-peer cloud storage solution)pays people in Sia coin to those who rent out extra space on their computers on the Sia network. Similarly, those who want to use Sia's storage must pay a host in Sia coins
technical requirements for algo trading
computer-programming knowledge to program therequired trading strategy, hired programmers, or pre-madetradingsoftware .•Network connectivity and access to trading platformsto place orders .•Access to market data feeds that will be monitored bythe algorithm for opportunities to place orders. •Theability and infrastructure tobacktestthe systemonce it is built before it goes live on real markets. •Availablehistorical data forbacktestingdepending onthe complexity of rules implemented in the algorithm.
cont ^
there are around 504 CC exchanges •Top Players: •Etoro(Israel): best for beginners, most popular today •Coinbase(USA): low fees (2-4%), beginner friendly, brokerage •Binance(Malta): new, but already has the largest trading volume,safe (SAFU), has their own coinBinanceCoin •Kraken (USA): allows margin trading w/ 5x leverage
cont ^
•Charity: •Bitgive-This service aims to provide greater transparency to charity donations and clearer links between giving and project outcomes. It is working with established charities including Save The Children, the water Project and Medic Mobile. •Retail: •OpenBazaar-OpenBazaaris an attempt to build a decentralized market where goods and services can be traded with no middle-man. •Travel•Webjet-The online travel portal is developing a blockchain solution to allow stock of empty hotel rooms to be efficiently tracked and traded, with payment fairly routed to the network of middle-men sites involved in filling last-minute vacancies.
issues in crypto
•In the past year, CCs have significantly increased in value following a decline at the start of the pandemic •Reasons for such a rapid growth in value include 1.Investors have more savings (stimulus $, etc.) but nowhere to invest 2.Many analysts think that the stock market is overvalued right now (P/Eratios are at historical highs right now) 3.The price of CCs is not based on fundamentals (like with stocks), and therefore CCs cannot beovervalued 4.Scarcity of some CCs (like Bitcoin with a cap of 21mil BTC) 5.Decentralization in CCs makes them more popular 6.Accessibility of purchasing CCs (Binance,Coinbase,Robinhood) 7.Big names (Tesla andMicroStrategy) made big investments in CCs recently 8.Self-fulfilling prophecy: investors believe P would continue increasing,demand increases, P increases
takeaways
•Matching buyers and sellers in financial assets is acomplex but very important task. •Some market participants can exert negativenetwork effects •Both increase in efficiency and increase in systemicrisk
