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Comment by UweSchmidt | Hacker News Reader

I fail to see how the "real" investors which I described above cannot execute a trade. Could your mathematical model describe some hypothetical situation?

The "premium" could then be split between the both parties. The cake is larger (but maybe not split as evenly).

The argument about webapps vs. curing cancer is also levied by techies right here on this site and might be valid, (yet weaker, since webapp-big data might eventually help with medical-big data?). Either way you have not made an argument for HFT with your last sentence.

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Mr. Brown is a business owner and has his assets tied up in inventory that will produce future cash flows (maybe a farmer). Mr. Brown's inventory is in an incredibly volatile asset. He wants to reduce the volatility of his asset, so he hedges by some sort of asset that has a negative correlation with the value of the inventory he is selling. He is not an investor, he is a hedger. Now, this particular hedge product Mr. Brown chose does not have a high volume on the exchange in his local country, but in another country, it is much more liquid. Without hft, he is looking at significantly high prices to buy this asset because of the wide bid-ask spread (he will have to cross the spread to place a market order). A hft company can look at this as an arbitrage opportunity. A hft can take the market on both sides (become the highest bid and the lowest ask) because they know they can buy the asset in the foreign market, sell it in the domestic market, and then convert the currency back to their desired currency. They will obviously have to do the math, but there is most likely a risk-free trading opportunity for the hft. As more hfts come into this domestic market, the bid ask spread will become smaller due to competition. The people that lose are the current market makers.

Just a little nit-pick. The trade you are describing is not risk free. It has inventory risk, FX risk, counter party risk, operational risk, etc. It also has a cost of entry. All of those things still exist in the HFT space.

Again, back to my milk analogy further up, in theory you could get your milk direct from the farmer and cut out the middleman. I'm sure some of them go to markets and set up stalls and such. But the reality is, it isn't the farmer's game to do that. Every moment he holds that milk he is carrying inventory risk (it could spoil). And if a buyer doesn't turn up, then it definitely will spoil. Instead he offloads it to a middleman who is equipped to handle it (refrigerated tankers, etc.). Now in this real world example, the bulk of what the middleman is paid for is value-add (transport, pastuerization, bottling, etc.), but there is also the payment for liquidity. These companies (i.e. Fonterra) will be there to take your milk every morning. So some of what you pay for is that liquidity.

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