High-frequency trading (HFT) is high-volume trading used by proprietary traders and a new breed of electronic trading outfits (typically privately held). It relies on synthesising information faster than other traders using sophisticated trading algorithms and powerful computers, often co-located near the electronic matching systems within securities exchanges. By co-locating their trading systems close to the exchanges’ matching 'engines', these firms can speed up their orders to the exchanges ever so slightly (the time savings are in the milliseconds) and thus provide a competitive advantage over other traders whose systems are not as fast.
In addition, the HFT firms' orders are designed to be not only faster but also potentially more nimble by strategically and swiftly placing buy and sell orders (and, in many cases, quickly canceling them). In this way, HFT firms can detect or anticipate changes in the depth and direction of order flow from institutional and retail investors.
For example, the HFT traders can position themselves to profit from momentary order imbalances and fleeting intra-day price trends by placing aggressive buy and sell orders (thus putting them first in line to gain by either first buying low and selling slightly higher in less than second or by first selling high and then buying moments later at a slightly lower price).
One example of an order that can help an HFT trader identify these short-term fluctuations in liquidity and price trends is a flash order. Flash orders are typically sent to certain traders in a market for less than one second before being routed more widely.
Their speed of execution can save the trader placing the order some money, if only a sliver of a basis point, while also providing HFT firms with a potential profit opportunity.