High-Frequency Trading Strategies

Abstract

We document an important information channel driving HFT behavior. Examining the order book imbalance immediately before each order submission, cancelation and trade, we show high frequency traders (HFT) use limit order book information to supply liquidity on the thick side of the order book and demand liquidity from the thin side. This strategic behavior is more pronounced during volatile periods and when trading speeds increase. However, by competing with non-HFT limit orders, HFT impose a welfare externality by crowding out slower non-HFT limit orders. Results from a natural experiment that increased market information access speeds further supports our findings.

Keywords: High-frequency trading, institutional traders, retail traders, limit order book

JEL Classification: G12, G28