Money managers aren’t the only ones fretting over the onslaught of high-frequency trading.
Day traders, also known as discretionary traders, are finding it difficult to make money in a marketplace dominated hyperactive machines. "Discretionary traders are losing," Mike Bellafiore, a partner with proprietary shop SMB Capital, said at the recent High Frequency Trading World conference. "There are certain patterns that have been taken out of the marketplace because of high-frequency traders."
Day traders, typically associated with a manual trading style and a subjective decision-making process, are finding the strategies they’ve lived on are disappearing. Opportunities for momentum trading, where traders piggyback on a stock’s trajectory, or scalping, where traders exploit bid-ask spreads, have virtually disappeared. As for scalping, "That is what the HFTs are doing now," Bellafiore said. "Those plays have been taken out of our playbook."
Like day traders, high-frequency traders try to detect patterns in quotes and trade data and take positions accordingly. Unlike, day traders, however, they rely on algorithms and a high-speed trading infrastructure to do more trades, more quickly. Point-and-click day traders can’t compete.
"When I started trading we used to be swing traders," Bellafiore said. "We would trade Cisco and Microsoft on an intraday basis. Those stocks don’t move anymore." Swing trades typically occur at the end or near the end of big price moves.
Some discretionary trading firms are attempting to morph into high-frequency shops by building black box trading systems. That’s not so easy though, according to one executive at a top discretionary trading firm. "Developing a profitable black box is so much harder than developing a profitable discretionary trader," Andrew Actman, chief strategy officer at Lightspeed Financial, said at the Terrapinn conference. "A system might work for a day, but then the next week it’s not going to work out."
Bellafiore maintains there is still a role for discretionary traders, both in building black boxes and exploiting patterns. Despite the loss of certain patterns to the HFTs, it’s possible to find others. "We see a lot more "V" patterns, for example," he said. "We are spending 99 percent of our time focusing on new patterns instead of spending 99 percent of our time complaining about the fact that we are not making as much money as we used to."
