Algorithmic Trading - Cracking the Matrix

PUNE, INDIA: In an interesting scene in the movie Matrix Trilogy, Neo asks. “Why am I here?”

The Architect replies.

“Your life is the sum of a remainder of an unbalanced equation inherent to the programming of the matrix. You are the eventuality of an anomaly, which despite my sincerest efforts I have been unable to eliminate from what is otherwise a harmony of mathematical precision. While it remains a burden assiduously avoided, it is not unexpected, and thus not beyond a measure of control. Which has led you, inexorably, here.”

Neo: “You haven't answered my question”.

The Architect: “Quite right. Interesting. That was quicker than the others.”

Talking about the Byzantine world of algorithms is almost the same. Anomalies, mathematics, and humans in a different equation with programs in the matrix of markets. Except that talking to Shailendra Abhyankar, Senior Vice President, SunGard Global Technology helps to demystify the Felliniesque world of Algorithms and Trading in a more cogent and simple way than Neo could ever hope for. Time to reload.

Algorithmic trading and high-frequency trading; Apples and oranges?

Algorithms are a rage today. About 60 to 70 per cent of volumes in the US are done through programs of algorithms. You don’t need traders except for where to mine opportunity and what proprietary programs to apply. But this need not necessarily be high-frequency trading. High-frequency trading is algorithmic trading. But not all algorithmic trading is high-frequency trading. Because all points of time do not give a window of opportunity, which is what essentially algorithms leverage. High frequency means where you have to trade at a speed, and order of execution is in microseconds. These traders buy and sell by the tick and everyone is selling off at the end of the day. The fact the market has inefficiencies, is what algorithmic trading actually captures and plays on.

Is it right that algorithmic trading is more amenable to sell-side firms than buy-side ones because of possibilities of information leakage?

Well, an algorithm is always proprietary so leakage is always possible, but in a fast market algorithms keeps changing. Biggest volume is in equity. Primary users are hedge funds. US has a lot of them, about 900 high frequency traders as compared to some 30, 000 institutional ones.

What about India?

With STT (Security Transaction tax), the arbitrage opportunity is small. In high-frequency trading, it makes only ten per cent of volumes, but in algorithmic trading there is an opportunity.

But is the absence of human element a completely positive part? What about the intuitive aspects? Or a situation like the May DJI crash which was attributed to computer errors?

Human element is there to design it. Also testing is a huge part of the process. You need to look at bad data before you put it into the system. Can it still lead to a crash? Well, yes. But the good part is that it creates liquidity in the system. It keeps the market alive. As to May like events, flash crashes happen in high-frequency trading too. Besides, regulators are putting in a lot of regulations. Now you can put checks before the trade. The trading window is affected in the view of speed of writing algorithms. Executing those demands quick time capabilities. Technology helps here. Traditionally what was being handled with software is now being handled with hardware. More checks and balances are being done.

Do canned algorithms work better than client-based ones?

It is all about matching a huge volume of input with the output. You need a ticker and a lot of market data. A lot of things and the heart of trading are not customized but commoditized. But some customization happens on a pay-as-you-use model. Our solution of multiple algorithms is an example. The core is the product, but strategy for execution can be customized. This can be done in-house or with services from companies like Sungard. Ala Carte is possible in such realms.

So how is algorithmic trading shaping up?

As market inefficiencies rise and value of market jumps up, algorithmic trading helps them correct in quick time. Today, markets are well connected with direct market access and low-touch trading gaining ground. Markets are now technology-driven. Number of market places are also exploding with 24/7 operations. People need to catch on to a trading opportunity at the snap of a finger, and should be able to find arbitrage opportunity in a high-frequency market. It is because of a lot of high frequency trading in US (about 300 billion $ in a single day) that so much liquidity is created in the system.

What about your company’s India footprint in this area?

We have been strong internationally. As a non-domestic vendor, we have the privilege of being empanelled by NSE for order management solutions. This shows our commitment to Indian market. A large portion of the market here is FIIs. Combination of hardware and software creates new solution and helps inject liquidity while taking care of inefficiencies and latency. We are very excited for this market.