A Dysfunctional Role of High Frequency Trading in Electronic Markets
16 Pages Posted: 9 Mar 2011 Last revised: 30 Jun 2011
Date Written: June 29, 2011
This paper shows that high frequency trading may play a dysfunctional role in financial markets. Contrary to arbitrageurs who make financial markets more efficient by taking advantage of and thereby eliminating mispricings, high frequency traders can create a mispricing that they unknowingly exploit to the disadvantage of ordinary investors. This mispricing is generated by the collective and independent actions of high frequency traders, coordinated via the observation of a common signal.
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