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Exchange Volume

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Since the early 2000’s, trading on the major exchanges has been on the decline because multiple trading venues exist away the major exchanges that account for the bulk of daily trading volume. Dark Pool liquidity simply refers to an exchange outside of the major exchanges where stocks are traded anonymously by large institutions.

When you put in an order to purchase a stock at 20.05, your broker charges you only $7 because he sells it to a High Frequency Trading (HFT) shop. The HFT scans the majors and dark pools for a chance to arbitrage your trade. As soon as they find a dark pool with bid 20.04, they’ll purchase the stock, then re-sell it back to you for 20.05. This all takes place in less than the blink of an eye. Ever get a sell order filled at 20.04999 when you wanted a limit of 20.05? That was an HFT arbitraging your order. Both of these trades took place outside of the regular exchange and do not count towards the general volume of for example, the NYSE. The HFT then gets a rebate of ¼ penny per share because it brought business to a certain off market exchange. Multiply all of this this by millions and it starts to not only add up in pennies, but also in volume taken away from the major indexes.

While the HFT does add volume and liquidity, the volume does not show up on the major exchanges and the liquidity will most likely dry up at the first sign of market instability (ie: recent twitter terror attack ‘crash’).

Volume studies still have some value, but they cannot be taken in the same context as they were 20 years ago when almost all trades occurred on the NYSE floor.

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Tags: hft


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