High-frequency trading, according to Jason Zweig’s new book, The Devil’s Financial Dictionary, is defined as
A technique often used to cheat other traders by a few fractions of a penny in a few millionths of a second, much faster than deceptive trading used to be. The practice of snooping on stock quotes and using private information to trade ahead of others is as old as Wall Street itself. High-frequency trading became controversial only after it was based on advanced computer technology rather than cheating by hand.
In 1790, high-frequency traders cashed in on Alexander Hamilton’s proposal to restructure the federal debt by hiring fast ships to outrace the spread of the news on land. That enabled the traders to snap up U.S. bonds at bargain prices from holders who were still in the dark.
Around 1835, reporter Daniel H. Craig began boarding steamships in Halifax, Nova Scotia. He swiftly digested the financial news in the European newspapers on board, then recorded it in tiny bulletins on tissue paper that he strapped to the feet of trained carrier pigeons. As each ship approached Boston, Craig released the birds, which homed in on his office, where clerks transcribed the news and distributed it to high-frequency traders who paid up to $500 for each hour they were able to get it ahead of the general public.
For decades, trading intermediaries called “specialists” or “market makers” shaved at least 12.5 cents off every trade for themselves. The take of today’s high-frequency traders appears to average 1 cent or less. Their equipment is much faster than it was in the 1790s, but the techniques some high-frequency traders use are just electronic updates of the same old dirty tricks.