virtu's prospectus as a case in point. https://www.sec.gov/Archives/edgar/data/1592386/000104746914...
That becomes more likely for any given firm as the competition increases. Spreads get smaller; there's more competition for any given trading opportunity. For each firm, that can mean declining profits per trade and declining numbers of trades made. When the product of those two numbers gets too low, you're in the red.
Worse, they ignored many alarms as the company was sinking.
This is not correct. Read the SEC report on the incident if you have time, it is pretty in depth: http://www.sec.gov/litigation/admin/2013/34-70694.pdf
The short-version is that they re-used a parameter from an old feature and one of the production machines was not updated so the re-used parameter re-activated the old feature instead of the new one. Furthermore, A refactoring of the code had left the old feature on the wrong side of the share accounting code so the system was not keeping track of the orders it was putting out.
But still it was not any kind of market or trading risk that blew them up--just a litany of control failures and bad code.
http://washpost.bloomberg.com/Story?docId=1376-N2CB0F6TTDTQ0...
edit: I did not imply that none of the hft strategies were taking market risk. The ones that scalp certainly seem to.
In the absence of "scalping", trading in stocks works like trading in houses. There are lots of buyers. There are lots of sellers. In the majority of cases, they disagree materially on the correct price. Therefore, it (a) takes forever to enter or exit a position, and (b) often forces people to accept terribly unfavorable pricing.
The "scalp" market makers take is the market price for always having a counterparty willing to trade with you at a price near the true market value of the trading instrument.
If you want the markets to work more like the real estate market, you can do that: place limit orders. The fact that market orders carry a premium price isn't a subtle detail of the market; it's trading 101.
All things being equal, you want the "scalp" to be as thin as possible. The wider the spread, the closer the scalping blade comes to the skull. Liquidity has a price, and investors want that price to be as low as possible.
So now, an exercise for you: at the height of HFT profit-taking, was the price of liquidity (a) lower or (b) higher than it was during the 1990s?
http://www.nytimes.com/2005/04/13/business/13nyse.html?pagew...
[Edit] I am referring to another firm; it seems if you are in the trading business, you are taking risk. This certainly has multiple meanings. You can measure risk against a position you hold relative to holding nothing. If you are a Market Maker HFT, then you risk the market collapsing out from under you when you are legally obligated to stay in.