The rhythm of the algorithm

If  you ever wonder where the balance of human and machine intelligence is headed in general, you’ll want to read this piece, “How to Make Money in Microseconds,” in the London Review of Books.” I think most people know, by now, that a lot of market trading is now controlled by computers that place buy and sell orders on the basis of algorithms. This essay goes well beyond that generality to describe exactly what the algorithms do, and in so doing takes a reader down an engaging if increasingly unreal rabbit hole full of statistical arbitrage, volume participation, volume-weighted average price (or VWAP, pronounced vee-wap), and even more arcane and predatory types of algorithms. Such as these:

Far more controversial are algorithms that effectively prey on other algorithms. Some algorithms, for example, can detect the electronic signature of a big VWAP, a process called ‘algo-sniffing’. This can earn its owner substantial sums: if the VWAP is programmed to buy a particular corporation’s shares, the algo-sniffing program will buy those shares faster than the VWAP, then sell them to it at a profit. Algo-sniffing often makes users of VWAPs and other execution algorithms furious: they condemn it as unfair, and there is a growing business in adding ‘anti-gaming’ features to execution algorithms to make it harder to detect and exploit them.

This is an extraordinarily detailed and well-balanced piece that includes no fear-of-computer troglodytism but still argues that computerized trading has become a ” tightly coupled and highly complex” system that probably is, therefore, “inherently dangerous.” Call me fascinated, Hal.

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Filed under computer algorithms, London Review of Books, market trading, markets

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