Investing > High-Frequency Forex Explained

High-Frequency Forex Explained

High-frequency forex trading platforms make millions of tiny transactions per day. Learn how these algorithms have a big impact on the forex market.

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Updated January 10, 2022

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Don’t you wish robots could take over for you? 

No – not a singularity-style science-fiction apocalypse type of robot takeover. 🤖

But sometimes, when you’re doing the laundry, or you’re making dinner, or you’re picking up some poor soul from the airport, don’t you ever find yourself thinking: Why do humans still have to do all of this? 

Well, if you’ve ever had that thought when you’re forex trading, you’re not alone. Forex trading of any kind requires all kinds of knowledge: there’s the basics of how the market works, the times that different markets open, economic and political news from across the world, and the down-to-the-minute accounting of what different currency pairs are actually doing at this precise moment. Isn’t that too much to fit in one human brain? 

We’re not saying that the forex market is officially ready for the robot takeover – but there are some high-tech algorithms that many traders are using to get ahead of the curve trading currencies. High-frequency forex trading is done by advanced computers (basically the same as a robot butler, right?) that can execute extremely high volumes of trades every single day. 

If you’re wondering whether high-frequency forex trading is right for you, you’ve come to the right place. Maybe you saw the estimates that the high-frequency trading market will be worth $501 million by 2028, and you want to get in on some of that action. This guide will explain what high-frequency forex trading is, how it works, its advantages and disadvantages, and more. 

What you’ll learn
  • What is HF Forex Trading?
  • How HF Forex Trading Works
  • Different Types of Algorithms
  • Is HF Forex Trading Worth It?
  • Pros and Cons
  • How to Start HF Forex Trading
  • Impact of HF on the Forex Market
  • High Frequency Forex Regulation
  • Conclusion
  • High Frequency Forex Trading: FAQs

What is High Frequency Forex Trading? 🔎

We’ll be focused on the forex market, but high-frequency trading isn’t just reserved for the forex market. This strategy is just what it sounds like: making a high volume of trades extremely quickly. So quickly in fact, that only a computer is capable of carrying them out at this level. 

High-frequency trading isn’t the only way that technology is shaping the forex market, as ease of access and flexibility for traders have been introduced thanks to apps and more. High-frequency trading usually has the following features: 

  • An extremely high volume of trades 
  • Orders can be canceled very quickly 
  • Positions are held for very short amounts of time 
  • All positions are closed by the end of each trading day 
  • Profit margins on trades are very thin 
  • Data feeds and proximity services fuel the algorithm 
  • Proprietary trading, such as a bank investing for its own profit rather than for its clients 

Basically, high-frequency forex trading is working on algorithms that seek to predict market fluctuations before they even happen. So it’s not necessarily looking at how the Dollar’s inflation data might shift the market – it’s watching the tiny shifts in currency pairs to try to make a million tiny profits.

How High Frequency Forex Trading Works 👇

High-frequency forex trading is all about technology. There are full reports of the server market that detail the applications, processors, form factors, and more that are responsible for the most high-frequency trading. It’s important for traders to use the most up-to-date technology that can compete with the other supercomputers out there.

High-frequency trading is basically like a fancier version of forex expert advisors, which offer automated trading advice and assistance. These algorithms consider market data and have a complex set of indicators that tell them whether to make a trade. They essentially end up day trading the forex market, but at even higher volumes. 

Types of Algorithms 🤖

Not all algorithms are created equal. Different algorithms may be used for different types of trading. There are typically four categories of algorithmic trading: 

  • Statistical. These algorithms use statistical analysis of historical data to predict profitable trades.
  • Auto-Hedging. These algorithms automatically reduce risk exposure.
  • Execution Strategies. This is a broad category referring to algorithms that are programmed for a certain task. This might be reducing market impact, executing trades quickly, or whatever the programmer sets.
  • Direct Market Access. These algorithms allow traders to access multiple trading platforms at faster speeds and at less expense. 

High-frequency trading can take advantage of some or all of these algorithms to work extremely quickly through a high volume of trades. This is essentially a type of algorithmic trading: while all high-frequency trading is algorithmic, not all algorithmic trading relies on high-frequency strategies. 

High frequency forex trading generally features one of four types of algorithms.

Programming Languages 🖥

The actual software that makes high-frequency forex trading possible is more complicated than the Java programs often used for simpler day trading. Many high-frequency trading algorithms are written in a variety of languages: Python is often used for quantitative analyses; R is often used for data and statistical analysis; C++ allows for faster program structures. 

Some traders will also use Java, Matlab, and C#. The important thing is that the software designer be able to program something that is fast enough to have an advantage over the other high-frequency trading systems working the market.

Individuals & Institutions ⭐️

So who actually uses high-frequency forex trading? Well, it’s not always the little guy. Many large institutions use high-frequency trading. These processes give them an advantage in the market, and in exchange, the market becomes highly liquid as millions of orders are placed. 

The advantage that institutions gain is based on the volume of trades since the individual returns on their trades are minuscule. Some trading venues also give firms discounted transaction fees to incentivize high-frequency trading. 

These factors can give big institutions that are capable of more sophisticated, higher volume high-frequency trading an advantage over smaller organizations and individual investors. Is that fair? Well… maybe not. Some people think that the liquidity these institutions provide makes it worth it. We’ll let you decide this one for yourself. 

Is High Frequency Forex Trading Worth it? 💡

If you’re tired of pulling your hair out over the ECB’s inflation forecasts, or the Deutsche Bank’s new forex trading engine, and trying to see how these opaque inner workings might impact your specific trades, signing everything over to an algorithm can sound mighty appealing. So how do you know whether high-frequency forex trading is right for you? There are a few questions that you should ask yourself as you work through this. 

What Algorithm Will You Use? 👨‍💻

The computer is the one doing all this trading, right? So it makes sense that your trading is only going to be as good as your algorithm. If you are a great computer programmer and know exactly what you want, then it will cost $0 for you to set up your own high-frequency forex trading algorithm. 

But if you’re not the Girl with the Dragon Tattoo, you might need to purchase some software – and some good software. There’s no point to investing in a half-witted algorithm. While developments in technologies are buoying the forex market, not everything you find is going to have that Midas touch. But to get the stuff that’s really going to set you up for success, you might have to pay a pretty penny. 

What Are You Spending? 💸

You may need to get a data provider since high-frequency trading is all about data. These can start at $5,000 per month. Then, you might need a dedicated server, which could be $2,000 per month. If you’re collocating that server to reduce latency between exchanges, that could be about $8,000 per month. And that’s not even getting to the software itself, which is another $10,000 or so per month, depending on what all you use. Assuming you can operate all this yourself and you’re not bringing on some kind of super staff to manage this, we’re looking at $25,000 per month, minimum. 

With those numbers, you can start to see why big institutions are really leading the charge in high-frequency forex trading. That’s a pretty hefty cost quotient, which is why you need to consider…

What’s Your Starting Capital? 💰

Profit margins for high-frequency forex trading are razor thin. It’s a numbers game, not winning the lottery. Those razor thin margins mean a little more if you have significant capital at your command, and if you are using leveraged trades.

As we’ve just explained, the startup costs for high-frequency forex trading are significant. At the minimum, you need to be earning at least what you’re spending, which could be a minimum of $25,000 per month. If you only have $10,000 of capital to start off with, it’s unlikely that you’ll be tripling that every month so you can see an actual profit.

Have you ever heard the phrase “it takes money to make money?” Well, that’s basically referring to situations like this. The top 10% of hedge funds make a return of 15% per year. This means that to be a full-time trader, you need to have about 20 times your yearly expenses so that your yield covers your yearly expenses. Of course, you don’t need that much just to get started – but with the high startup costs of high-frequency forex trading, you do need to have significant stores that can keep you in the black.

Advantages and Disadvantages of High Frequency Forex Trading ⚖️

So who should be trading high-frequency forex? It’s not for everyone – but don’t worry, there are plenty of other strategies for trading forex out there. 

But before you completely decide that high-frequency forex is or isn’t right for you, let’s review the advantages and disadvantages. We’ll cover advantages and disadvantages not only for the investors using these strategies, but also how the market is impacted by high-frequency forex trading. 

Pros

  • Provides market liquidity 
  • Tightens spreads
  • Reduces arbitrage 
  • Not affected by major market changes
  • Consistent profit with minimal human effort 

Cons

  • Not accessible to smaller organizations 
  • Makes the market more volatile
  • Higher market risk for flash crashes and sell-offs

High Frequency Forex Trading Pros ✅

High-frequency forex trading makes markets highly liquid, as cash is flowing in and out of a high volume of trades throughout each trading day. Regular traders are thus able to move their money faster, and liquidity tightens spreads and reduces arbitrage. 

For investors that are able to afford high-frequency trading, the pros can be significant. This style of trading relies on minor movements in the market, meaning its profits continue despite major market swings. High-frequency trading delivers consistent profits while requiring very little maintenance from actual humans, leaving investors time to do a myriad of other things. 

High Frequency Forex Trading Cons ⚠️

Some say that this liquidity is not enough of a benefit to outweigh the unfairness of supercomputers coming into the market. Most individuals and small firms are not able to afford the materials necessary for high-frequency trading. It can also make the market more volatile and at higher risk for flash crashes.

How to Start High Frequency Forex Trading

So, you’re ready to get started! Well, if there’s one thing we can impart to you, it’s that you need to get started trading high-frequency forex the right way. As the market for high-frequency trading servers expands, you need to make sure you’re ahead of the curve. These steps can help you get started in setting up your high-frequency forex trading system.

Find Your Broker 🗺

First, you’ll need to figure out what broker and platform you’ll be using. Not all of the world’s popular forex brokers offer trading platforms that can work with high-frequency trading. Make sure you find a broker that can serve your needs and has a platform you are comfortable with.

Here are a few brokers trusted by traders across the globe:

Fees
Average spread EUR/USD standard

0.9

1

All-in cost EUR/USD - active

0.363

0.7

Minimum initial deposit

$250

$100

General
Total currency pairs

93

82 (in US)

Demo account?
Social / copy trading?
Rating
Fees
Average spread EUR/USD standard

1

N/A

All-in cost EUR/USD - active

0.7

N/A

Minimum initial deposit

$100

$0

General
Total currency pairs

82 (in US)

105

Demo account?
Social / copy trading?
Rating
Fees

Average spread EUR/USD standard

0.9

1

N/A

All-in cost EUR/USD - active

0.363

0.7

N/A

Minimum initial deposit

$250

$100

$0

General

Total currency pairs

93

82 (in US)

105

Demo account?

Social / copy trading?

Learn the Process 🎓

Then, make sure you know what you’re getting into. There are handbooks, blogs, journals, podcasts, and more that you can dig into to become an expert on high-frequency trading. Just by reading this guide, you’re already off to a good start. 

Some favorite books on high-frequency trading: 

  • All About high-frequency Trading by Michael Durbin
  • Algorithmic and high-frequency Trading by Alvaro Cartea
  • Flash Boys: A Wall Street Revolt by Michael Lewis

You can also find tips and training courses online to help you learn to write algorithms, or just figure out what kind of algorithm you’ll be working with. Understanding your individual preferences and needs is always the first part of the process.

Purchase Your Software 📈

Once you know what exactly you want to do, it’s time to buy your software. There are many platforms for high-frequency trading, including QuantConnect. You’ll also need to purchase application programming interfaces (APIs), which facilitate communication between individual software systems. You can build these yourself, or purchase one from a provider like AWS.

How High Frequency Trading Has Impacted the Forex Market 💱

We’ve already touched a bit on how high-frequency trading affects the forex market. There are a few different schools of thought here. Some studies have reported that increased use of algorithms has hurt the quality of forex prices. Algorithms account for approximately 10-20% of daily global trading, so their choices can impact the market as a whole. 

History of High Frequency Trading in the US 📜

The United States has been the hub of high-frequency trading, though there is still a significant (but smaller) practice in Europe. In the United States, high-frequency trading has accounted for half the volume in the equity market since 2008. These volumes peaked in 2009 and then slowed for a few years after the financial crisis, but it has started climbing again in recent years. 

Share of US Equities Trading Volume
U.S. equities trading volume, 2006 – 2017.

These shifts correspond to a much bigger impact on the revenues generated from high-frequency trading. These revenues peaked in 2009 at $7.2 billion before dropping below $1 billion in 2017, the lowest it had been since before the financial crisis.

Revenue for US Equities
U.S. equities revenue, 2009 – 2017.

Clearly, the profits made from high-frequency trading have not picked back up as strongly as the share of equity volumes in recent years. This is likely due to higher costs, lower market volatility, and increased competition. As trading firms have been squeezed, their revenues have dropped because this impacts their ability to make the millions of trades per day necessary to turn a meaningful profit. 

Plus, high-frequency trading only gives an advantage to users whose software is faster than everyone else’s – even if it’s only faster by a fraction of a second. Once everyone has equally fast technology, the advantage for everyone disappears. High-frequency trading doesn’t work on a level playing field. 

Emergence of Dark Pools ⚫️

As the cost of highly important data rises in high-frequency trading, we are seeing more dark pools. A “dark pool” refers to an institutional investor trading a large volume to other institutional investors, and not releasing the actual details of the deal to the market at large. Dark pools bypass the servers that feed data to high-frequency traders. 

Some traders are in favor of dark pools, as large investors can make large trades without impacting the market as a whole. However, others claim that this leaves massive corporate investors free to trade with each other without engaging with the market as a whole, or even letting others see what’s going on behind the curtain. 

Forex Arbitrage 🚨

Arbitrage refers to the simultaneous buying and selling of assets. Arbitrage is not affected by volatile markets since it is independent from larger economies and basically takes advantage of inefficiencies in the market. 

Basically, when a currency is mispriced, a profit can be made by buying and selling it simultaneously. Some say arbitrage can help equilibrate the market, as it creates an awareness of price discrepancies. Regardless, arbitrage is hardly a new concept, but it has become more popular thanks to technologies that allow traders to compare prices on different exchanges instantly. 

High Frequency Forex Regulation 👨‍⚖️

There is no universal definition of high-frequency forex trading – which means there are only a few regulations for it. Still, it’s important to be aware of the major governing bodies.

Europe 🌍

In the EU, the Markets in Financial Instruments Directive II has clarified definitions of high-frequency forex trading. Almost all investors must now be authorized by the authorities, and high-frequency investors must keep time-sequenced records of their trades and algorithms for up to five years. 

United States 🌎

In the US, the Financial Industry Regulatory Authority has introduced similar regulations as in Europe, but they are more focused on mitigating the effects of high-frequency trading. There are more regulations on how firms can conduct order flows, and there are regulations to help curb spoofing, false quoting, and exorbitant influence. 

Conclusion 🏁

high-frequency forex trading is not for the faint of heart – we are talking about literally millions of trades with huge amounts of money run by serious software on major machines! If you’ve made it to the end of this guide, you’re probably ready for some other kind of robot to bring you a smoothie or a cold soda or whatever you use to unwind. 

Remember, high-frequency forex trading might not be accessible to all individuals, but depending on your computer skills, you might be able to dip your toe in the water. Even if you’re not personally thinking of starting high-frequency trading, it’s still important to understand what it is and how it impacts the market as a whole.

High Frequency Forex Trading: FAQs

  • Is High Frequency Forex Profitable?

    High-frequency forex trading turns a profit by making an extremely high volume of trades with very small profit margins. 

  • Who Uses High Frequency Trading?

    High-frequency trading is primarily carried out by large institutional investors such as banks and hedge funds that can afford powerful computers.

  • How Much Money Do High Frequency Traders Make?

    High-frequency traders make extremely small profits on individual trades, but make thousands or millions of those trades per day through an automated system.

  • What is the Difference Between Algorithmic Trading and High-Frequency Trading?

    High-frequency trading is a subcategory of algorithmic trading. All HF trading is based on algorithms, but not all algorithmic trading is necessarily high in frequency. 

All reviews, research, news and assessments of any kind on The Tokenist are compiled using a strict editorial review process by our editorial team. Neither our writers nor our editors receive direct compensation of any kind to publish information on tokenist.com. Our company, Tokenist Media LLC, is community supported and may receive a small commission when you purchase products or services through links on our website. Click here for a full list of our partners and an in-depth explanation on how we get paid.

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