http://www.bloomberg.com/news/artic...-a-killer-flash-boy-app-and-you-can-t-have-it
Regards
Patent application no. 14/451,356 has one goal: to outrun the speed demons of Wall Street.
The 16-page document was quietly published by the U.S. Patent and Trademark Office in February. Replete with schematic drawings, the filing describes a novel way for “executing synchronized trades in multiple exchanges.” The invention consists of not only sophisticated algorithms and a host of computer servers, but atomic clocks -- precisely calibrated to vibrations of irradiated cesium atoms -- to sync orders to within a few billionths of a second.
And if it works as advertised, one of the most illustrious names in the hedge-fund business could gain exclusive U.S. rights to a weapon capable of thwarting even the most predatory of high-speed traders.
The application belongs to Renaissance Technologies, the ultra-secretive and highly profitable $32 billion firm founded by mathematician and former code breaker Jim Simons. And the lengths it’s been willing to go to build and patent its own computer-driven technology -- at a potential cost of tens of millions of dollars -- underscores just how big a threat high-frequency traders have become to the industry’s largest and savviest players.
For a QuickTake explainer on high-frequency trading, click here.
Those HFT firms, vilified in Michael Lewis’s best-seller “Flash Boys,” have in recent years come to dominate U.S. stock trading by using supercomputers to pick off profits across dozens of electronic markets in less than a blink of an eye. Along the way, the shops have also drawn criticism from those who say they’ve gamed the system at the expense of everyone else.
“Hedge funds, especially the ones with greater turnover, are focusing much more on doing their own routing,” said Larry Tabb, the founder of the Tabb Group, a research firm that specializes in capital markets. More and more, they have started to “employ high-frequency trading technologies.”
Jonathan Gasthalter, a spokesman for Renaissance, declined to comment.
There’s plenty at stake. At Renaissance’s campus in East Setauket, New York, PhDs in fields from astrophysics to number theory labor over algorithms that analyze reams of data to predict changes in prices of stocks, currencies and futures. Those calculations, which the firm uses to make hundreds of bets in what’s known as statistical arbitrage, have helped its flagship Medallion Fund generate average annual returns of 71.8 percent, before fees, from 1994 through mid-2014.
That’s more than seven times the average annual gain for the S&P 500.
More Fragmented
Most money managers route their orders to brokers, who in turn send them onto various exchanges or dark pools, depending on which has the best price.
But as the U.S. stock market has become more fragmented, critics say high-speed firms have exploited the minuscule differences in time for trades to reach various exchanges to step in front of large investor orders. Even presidential hopefuls have stepped into the debate, with Hillary Clinton proposing a tax on one controversial HFT trading strategy.
Last year, trading by HFT firms accounted for about half the volume in U.S. stocks, according to the Tabb Group.
For their part, high-speed firms say they lower transaction costs by taking the other side of hundreds, if not thousands, of trades each day on various exchanges. Firms like Citadel Securities, a unit of billionaire hedge-fund manager Ken Griffin’s Citadel LLC, also serve as registered market makers.
Atomic Clocks
Whatever the case, Renaissance is taking matters into its own hands.
Its invention, developed by the firm’s co-chief executive officers, Robert Mercer and Peter Brown, first sends an order to a central server, which breaks it up into multiple smaller orders. Those are then routed to venues that offer the best prices and most liquidity, much the same as brokers do now.
But before that happens, the smaller orders are sent to servers located as close to the exchanges as possible, along with instructions on the precise times they should be executed. The co-located servers sync their transactions so HFT firms won’t have enough time to identify an order on one exchange and then race to another to trade against it.
A crucial part of the system is the optical, atomic or GPS clocks that will be used synchronize those orders. Renaissance says in its application that GPS clocks are accurate to within nanoseconds and any time differences between them are “too small to be perceived” by HFT firms.
Patent Risk
With a patent, Renaissance can block competing firms from copying its approach for as long as 20 years, which would help the firm maintain its edge. It could also license the system to others to defray the costs required to build and maintain such infrastructure.
In addition, Renaissance has laid the legal groundwork to obtain global patent protection for its system, documents filed with the U.S. Patent office show. But seeking a patent isn’t without risk, especially for a firm that’s long kept its lucrative trading strategies under wraps.
By filing a patent, “you basically move from guarding your proprietary strategy as a trade secret to revealing the precise mechanics of what you are doing,” said Paul Aston, founder of Tixall Global Advisors, which helps institutions with their foreign-exchange transactions. “The worst-case scenario would be to find out that much of your invention already exists.”
‘Prior Art’
Renaissance isn’t the first firm to seek a patent for its anti-HFT technology.
In 2013, the Royal Bank of Canada obtained one for a order-routing system that Brad Katsuyama, the hero of “Flash Boys,” and his team created for the firm. After starting IEX Group Inc., Katsuyama went on to develop the now-famous “magic shoebox,” which uses 38 miles of fiber-optic cable coiled in a small box to slow orders by 350 microseconds. IEX, which uses the system as its centerpiece, will become a full-fledged exchange in August.
According to Renaissance, these existing techniques fall short. In its patent filing, the firm cites unpredictable changes in “latency,” stemming from issues such as network traffic, data routing and outages, that could leave investors exposed to predatory HFT.
Renaissance says its own invention provides “a much simpler and more cost-efficient way to achieve accurate and repeatable synchronized trades compared to the prior art.”
The 16-page document was quietly published by the U.S. Patent and Trademark Office in February. Replete with schematic drawings, the filing describes a novel way for “executing synchronized trades in multiple exchanges.” The invention consists of not only sophisticated algorithms and a host of computer servers, but atomic clocks -- precisely calibrated to vibrations of irradiated cesium atoms -- to sync orders to within a few billionths of a second.
And if it works as advertised, one of the most illustrious names in the hedge-fund business could gain exclusive U.S. rights to a weapon capable of thwarting even the most predatory of high-speed traders.
The application belongs to Renaissance Technologies, the ultra-secretive and highly profitable $32 billion firm founded by mathematician and former code breaker Jim Simons. And the lengths it’s been willing to go to build and patent its own computer-driven technology -- at a potential cost of tens of millions of dollars -- underscores just how big a threat high-frequency traders have become to the industry’s largest and savviest players.
For a QuickTake explainer on high-frequency trading, click here.
Those HFT firms, vilified in Michael Lewis’s best-seller “Flash Boys,” have in recent years come to dominate U.S. stock trading by using supercomputers to pick off profits across dozens of electronic markets in less than a blink of an eye. Along the way, the shops have also drawn criticism from those who say they’ve gamed the system at the expense of everyone else.
“Hedge funds, especially the ones with greater turnover, are focusing much more on doing their own routing,” said Larry Tabb, the founder of the Tabb Group, a research firm that specializes in capital markets. More and more, they have started to “employ high-frequency trading technologies.”
Jonathan Gasthalter, a spokesman for Renaissance, declined to comment.
There’s plenty at stake. At Renaissance’s campus in East Setauket, New York, PhDs in fields from astrophysics to number theory labor over algorithms that analyze reams of data to predict changes in prices of stocks, currencies and futures. Those calculations, which the firm uses to make hundreds of bets in what’s known as statistical arbitrage, have helped its flagship Medallion Fund generate average annual returns of 71.8 percent, before fees, from 1994 through mid-2014.
That’s more than seven times the average annual gain for the S&P 500.
More Fragmented
Most money managers route their orders to brokers, who in turn send them onto various exchanges or dark pools, depending on which has the best price.
But as the U.S. stock market has become more fragmented, critics say high-speed firms have exploited the minuscule differences in time for trades to reach various exchanges to step in front of large investor orders. Even presidential hopefuls have stepped into the debate, with Hillary Clinton proposing a tax on one controversial HFT trading strategy.
Last year, trading by HFT firms accounted for about half the volume in U.S. stocks, according to the Tabb Group.
For their part, high-speed firms say they lower transaction costs by taking the other side of hundreds, if not thousands, of trades each day on various exchanges. Firms like Citadel Securities, a unit of billionaire hedge-fund manager Ken Griffin’s Citadel LLC, also serve as registered market makers.
Atomic Clocks
Whatever the case, Renaissance is taking matters into its own hands.
Its invention, developed by the firm’s co-chief executive officers, Robert Mercer and Peter Brown, first sends an order to a central server, which breaks it up into multiple smaller orders. Those are then routed to venues that offer the best prices and most liquidity, much the same as brokers do now.
But before that happens, the smaller orders are sent to servers located as close to the exchanges as possible, along with instructions on the precise times they should be executed. The co-located servers sync their transactions so HFT firms won’t have enough time to identify an order on one exchange and then race to another to trade against it.
A crucial part of the system is the optical, atomic or GPS clocks that will be used synchronize those orders. Renaissance says in its application that GPS clocks are accurate to within nanoseconds and any time differences between them are “too small to be perceived” by HFT firms.
Patent Risk
With a patent, Renaissance can block competing firms from copying its approach for as long as 20 years, which would help the firm maintain its edge. It could also license the system to others to defray the costs required to build and maintain such infrastructure.
In addition, Renaissance has laid the legal groundwork to obtain global patent protection for its system, documents filed with the U.S. Patent office show. But seeking a patent isn’t without risk, especially for a firm that’s long kept its lucrative trading strategies under wraps.
By filing a patent, “you basically move from guarding your proprietary strategy as a trade secret to revealing the precise mechanics of what you are doing,” said Paul Aston, founder of Tixall Global Advisors, which helps institutions with their foreign-exchange transactions. “The worst-case scenario would be to find out that much of your invention already exists.”
‘Prior Art’
Renaissance isn’t the first firm to seek a patent for its anti-HFT technology.
In 2013, the Royal Bank of Canada obtained one for a order-routing system that Brad Katsuyama, the hero of “Flash Boys,” and his team created for the firm. After starting IEX Group Inc., Katsuyama went on to develop the now-famous “magic shoebox,” which uses 38 miles of fiber-optic cable coiled in a small box to slow orders by 350 microseconds. IEX, which uses the system as its centerpiece, will become a full-fledged exchange in August.
According to Renaissance, these existing techniques fall short. In its patent filing, the firm cites unpredictable changes in “latency,” stemming from issues such as network traffic, data routing and outages, that could leave investors exposed to predatory HFT.
Renaissance says its own invention provides “a much simpler and more cost-efficient way to achieve accurate and repeatable synchronized trades compared to the prior art.”
