SEC Report on Algorithmic Trading in U.S. Capital Markets

On August 5, 2020, the Securities and Exchange Commission (SEC) issued a report analyzing the developments, structure and effects of algorithmic trading in U.S. capital markets. In particular, it provides analysis and conclusions of various academic literature that focuses on the market effects of algorithmic trading and high-frequency trading, including effects on liquidity, price efficiency, and volatility. The 99-page report is viewed in its entirety here.

Since high-frequency traders (“HFTs”), at least historically, have accounted for a large portion of algorithmic trading activity in the U.S. equity markets, many studies specifically focus on examining the effects of HFTs. As discussed within the report, high-frequency trading is classified as a subcategory of algorithmic trading and generally refers to professional traders who use extremely fast data access and processing capabilities to execute short-term strategies. HFTs generally trade frequently intra-daily and avoid carrying a position overnight.

Overall, most academic studies find that algorithmic trading and HFTs have improved market quality and helped reduce transaction costs. There is ample evidence suggesting that, under normal market conditions, algorithmic trading and HFTs improve liquidity and price efficiency and reduce short term volatility. However, there is some evidence, mostly from the Flash Crash, that in certain instances algorithmic trading and HFTs may exacerbate price movements during periods of high volatility or market stress.