High-Frequency Trading Firms Enter Cryptocurrency Markets

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High-Frequency Trading Firms Enter Cryptocurrency Markets

In the bitcoin realm, things are going to become interesting.

According to a Financial Times story, some high-frequency trading businesses have begun trading in cryptocurrencies. DRW, a Chicago-based proprietary trading business, is the biggest of its kind, buying and selling bitcoin via its subsidiary Cumberland Mining. Jump Trading, DV Trading, and HehmeyerTrading are among the other trading organizations that have invested in cryptocurrency. Cumberland purchased 20,000 bitcoins from the US government’s Silkroad auction in 2015. Proprietary trading businesses function as counterparties for hedge funds and family offices in bitcoin transactions using their cryptocurrency holdings.

The recent volatility in digital currency values is the key draw for high-frequency traders to participate in such asset classes. This year, the S&P 500 has made just modest increases. In contrast, the ascent of cryptocurrencies has been rapid, with bitcoin, the world’s most popular cryptocurrency, increasing by 500% since the beginning of this year.

This surge, however, has been accompanied by significant volatility. For example, China’s declaration of a ban on initial coin offerings, which allow tokens to be exchanged for cryptocurrencies, led in a $500 price drop for bitcoin. Such circumstances are excellent for high-frequency traders, who utilize algorithms to execute large-scale deals in a short period of time. Even little changes in bitcoin pricing may allow high-frequency traders to benefit from enormous orders. However, it is unknown if they use algorithms for bitcoin trading. According to the FT story, high-frequency traders execute deals through email, Skype, and phones.

Another factor that makes cryptocurrency trading appealing to high-frequency traders in China, the biggest market for cryptocurrency trading, was mentioned in a Bloomberg story earlier this year. These considerations may also apply to high-frequency traders in the United States. Arbitrage of possibilities across several exchanges, which allows traders to benefit on discrepancies in the values of the same coin in different marketplaces, zero transaction fees (in China), and round-the-clock trading are among them. China uses algorithms for the bulk of its cryptocurrency trading, with high-frequency traders accounting for 60 percent to 80 percent of all transactions.

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The advent of high frequency traders into bitcoin may be bad news for cryptocurrency price volatility. According to a report published in 2010 by MIT’s Sloan School of Management, high frequency trading is positively connected with stock trading, with markets overreacting to fundamental news. (See also: Four Significant Risks of High-Frequency Trading.)

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