High Frequency Accounting

Question: Are you still alive?

Answer: Yes, although it’s been tough.  I really could use some help, and one day I will write a multi-page rant about the utter incompetency of financial recruiters …

It’s been months.  I apologize.  I didn’t intend to abandon the blog, if that’s of any consolation

Something short for today: accounting for HFT.

 

Question: What are the per-trade costs and commissions in equities trading?

Answer: The per-trade costs break down as follows:

1. “Brokerage Commissions” — for a standard sponsored access relationship, this refers to a commission.  For self-clearing, this refers to the amortized costs.
2. “Taxes” — monies that flow to government or regulatory agencies
3. “Exchange Costs” — monies that flow to or from the exchanges.

Generally, the brokerage commissions are less that $.0001 per share (1 cent per 100 shares), and these are assessed on a per-share basis for each order (buying or selling)

For a very long time, the tax was called an “SEC Fee”.  For PR reasons, SEC has been pushing the community to call the tax a “Trading Activity Fee”.  In any case, there is a rate which is updated each quarter.  Currently its around $.000019 per dollar sold ($19 for every million dollars sold).  Note that it’s only assessed on the seller, so you only pay this once.

As far as the exchange costs are concerned, they depend on whether or not you were the active party (your order caused the trade) or the passive party (your order was sitting at the exchange’s order book until another order trades against you).  If you are providing liquidity (e.g. market maker), you RECEIVE a small amount (at least $.002/sh).  If you are taking liquidity, you PAY a small amount ($.003/sh).

 

Question: Why is BAC considered an HFT “playground”?

Answer: Let’s look at the cost of buying and selling 100 shares of BAC at the same price, adding liquidity on both sides (suppose the price is $ 6).  Note that, in this example, there is no return before fees since the buy price is the same as the sell price.

Commissions = $ – .02 (200 shares x .0001 $/sh)

TAF = $ – .01235 (6.5 $-sold/sh * 100 sh * .000019 $/$-sold)

Exchange rebate = $ .40 (200 * .002 $/sh)

Total return: $.368 per 100-share lot.  It’s positive!

Note that there is a positive return if you can manage to buy and sell at the same price, so you could theoretically churn millions of shares a day trying to buy and sell at the same price (collecting the positive returns)

 

Question: What about AAPL?

Answer: Let’s re-do the calculation for AAPL (price $400/sh)

Commissions = $ – .02

TAF = $ – .76

Exchange rebate = $ .40

Total return: $-.38 per 100-share lot.  It’s negative!

Given that, the market maker must depend on price appreciation (the rebates just dont cut it).

 

Question: So how can you ensure that you are always passive on your trades?

Answer: All of the equities exchanges support an order property referred to as “Add Liquidity Only” or “Post-Only”.  This fundamental order property was created to resolve a strange problem: supposing you wanted to buy at the offer price, you end up paying more than the stated price.  The post-only flag tells the exchange not to trade against the other side unless the final price (adjusting for the exchange fee) is better than the sent price.

As a numerical example, suppose that the bid/offer for a stock were 10,10.01 .  Then, sending a buy order at 10.01 would result in an effective price of 10.0130 .  Sending that order as post-only would cause the exchange to reprice your order at 10.00 (ensuring you don’t trade worse than the 10.01 price).  However, if the offer price were 10.00, then you would buy actively at 10.00 since the effective price is 10.0030 < 10.01 (a slight price improvement).  So in reality, you need a platform that can quickly respond to price changes.

 

Question: So how do you make money?

Answer: The “Veyron” strategy (appropriately named, given the performance) essentially seeks to buy and sell passively on both sides, collecting rebates.  You need to have a low-latency infrastructure in order to ensure that, when one order is filled, you can quickly respond with the opposing order (i.e. if your buy fills, you need to quickly shoot off a sell order to catch slower traders before the price moves further).

And given the costs of doing business, 1M shares per day (which can be spread amongst many tickers) should be enough to cover everything and give a small salary.  That’s less than 1% of the volume of BAC

 

Question: So when will you be posting again?

Answer: Hopefully soon

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