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Bailey McCann, Opalesque New York:

New research from MIT's Sloan School of Management suggests that if institutions want to get around the front-running of high-frequency traders, they may want to consider inserting randomness into their order flows.

The basic mechanics of it work like this - HFTs are constantly monitoring the market to detect patterns and orders. When HFTs pick up on the large orders coming from institutions and asset managers prices are driven up or down to the detriment of the institutional investor. However, MIT Sloan School of Management Prof. Haoxiang Zhu has found that by making the orders harder to find, large institutions can get around front-running.

"Originally, the academic consensus was that HFT made the market more efficient by providing liquidity. However, recently a lot of attention focused on certain HFTs that are `front-running’ people," Zhu tells Opalesque. "Often this is presented as if HFT is only about front-running, but that's not always true."

In his study, he used a model to analyze the strategic interaction between investors trading for fundamental reasons, like pension funds and hedge funds, and traders exploiting order flow information, like HFTs. Zhu says a typical scenario is that a fundamental investor legally discovers better information of a stock than the market does, and trades to exploit that information. After the order is filled, a "back-runner" gets (also legally) an imperfect signal of the insti......................

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