Trading in Milliseconds: MFT Strategies & Setup By Ernest Chan – QuantInsti

Trading in Milliseconds: MFT Strategies & Setup

Looking to take your trading skills to the next level and use order flow to create a trading strategy? Our Medium Frequency Trading (MFT) course is the perfect opportunity to learn the ins and outs of the fast-paced trading style. In this course, you’ll discover the secrets of order flow analysis, understand the different types of orders, and learn to execute your MFT strategy. So what are you waiting for? Sign up now and join the ranks of successful medium-frequency traders!

LIVE TRADING

• Recall the differences between low-frequency trading, medium-frequency trading, and high-frequency trading.
• Explain the impact of HFT trading games on MFT traders, such as front-running, ticking, ratio trade, spoofing, hide and light, and stop-hunting.
• Utilize different types of orders, such as inter-market sweep orders(ISO), immediate or cancel(IOC), and Day ISO to execute trades.
• Calculate the order flow using the tick rule, quote rule, Lee-Ready algorithm, and BVC rule.
• Analyse tick data to develop MFT trading strategies
• Backtest and evaluate the effectiveness of MFT trading strategies
• Design new MFT trading strategies based on order flow analysis and tick data research.

SKILLS COVERED
Strategies
Order flow trading using tick data
Hide and light
Stop hunting
Ticking

Concepts & Trading
Time and Volume bars
Spoofing, Front-running
IOC and ISO orders
Lee-Ready Algorithm, BVC Rule
Tick Data

Python
Pandas
Numpy
Matplotlib
Resample
Expanding

LEARNING TRACK 8
This course is a part of the Learning Track: Advanced Algorithmic Trading Strategies

PREREQUISITES
Fluency with Python including python libraries like Pandas, Numpy, Matplotlib, and a good understanding of financial markets.

SYLLABUS

Introduction
Medium-frequency traders do not need expensive hardware in comparison to high-frequency traders. However, they are still faster in comparison to retail and low-frequency traders. This section introduces the course contents and a welcome address by Dr E P Chan. The interactive methods used in this course will assist you in not only understanding the concepts but also answering all questions about systematic options trading. This section explains the course structure as well as the various teaching tools used in the course, such as videos, quizzes, coding exercises, and the capstone project.
Course Introduction 4m 46s
Course Structure 2m
Course Structure Flow Diagram 2m
FAQs 2m
Quantra Features and Guidance 2m 38s

An Introduction to Market Microstructure
In this section, we will cover the key concepts of market microstructure.
Market Microstructure 05m 40s
Order Book 5m
Bid-Ask Spread 5m
Liquidity Makers 5m
Market Impact 5m
Importance of Bid-Ask Spread 5m

Need and Challenges of MFT
In this section, you will understand the different types of latency and the latency requirements for medium-frequency trading. Further, you will get an understanding of the challenges faced by medium-frequency traders.
Definition of MFT 2m
Latency and Trading Regimes 5m
Types of Latency 5m
Identification of Trader Based on Latency 5m
Definition of Order Submission Latency 5m
Definition of Order Status Latency 5m
Trading Frequency 5m
Why Should You Focus on MFT and its Challenges 2m
Hardware Requirements of MFT 5m
MFT Latency Tolerance 5m
Consequence of High Regulations on HFT 5m
Knowledge About HFT Strategies 5m
Games Played by HFT 5m
MFT Focus Areas 5m

HFT Gaming
Certain strategies employed by HFT firms are detrimental to the medium-frequency trader’s ability to generate revenue. One of these HFT strategies is called front-running. This section covers the concept of front-running and its impact on medium-frequency traders.
Front-Running 2m
Reason to Be Wary of HFT 5m
Identification of Front-Running 5m
Effect of Front-Running on MFT 5m
Front-Running and Liquidity 5m

Impact of Ticking Strategy
In this section, you will see the impact of the ticking strategy on medium-frequency traders. You will also get a glimpse of how dark pools can be used again by MFT traders.
Impact of Ticking Strategy on MFT 2m
Definition of Slow Market Makers 5m
Reason for No Order Fulfillment 5m
Definition of Adverse Selection 5m
Reason for Low Liquidity 5m
Use of Dark Pool Against MFT Traders 2m
Improvement of Order by Dark Pool Operator 5m
Execution of Sub-penny Ticking by MFT 5m
Execution of Sub-Penny Ticking 5m
Impact of Dark Pools on MFT 5m
Execution of Sub-penny Ticking by Dark Pool Operators 5m

Ratio Trade
Most markets operate on a first-come-first-serve basis. If your bid reached the exchange first, your bid would be executed first, and then other bidders with the same bid price would get their turn. But certain markets work on a pro-rata basis, where being first in line does not hold any special significance. In this section, you will see how HFTs use these markets to earn revenue with relatively less risk.
Ratio Trade 2m
Order Fulfillment in Time Priority Scenario 5m
Order Fulfillment in Pro-Rata Priority 5m
Advantage of Pro-Rata Priority for HFT 5m
Time of Order Placement in Pro-Rata Priority 5m
FAQ – Things to Keep in Mind 2m
Additional Reading 2m

Spoofing
Spoofing is an illegal practice where HFTs will place a large fake order to influence the market direction. Understand how this strategy is executed and why it is illegal.
Spoofing 2m
Impact of Total Bid Ask Volume on Price 5m
Spoofing Orders 5m
Execution of Selected Order 5m
After Execution of Spoofed Order 5m
Expectation After Cancellation of Large Order 5m
Extraction of Profit From Spoofing Orders 5m
Countering the Spoofing Strategy 2m
Reason for Illegality of Spoofing 5m
Call Bluff of Spoofing 5m
Reaction to Bluff Being Caught 5m
FAQ – Spoofing 2m
Additional Reading 2m

Other Ways HFT Wins
Research indicates that stop orders cluster around round numbers. Can someone take advantage of this fact? Understand how HFT and other market participants could force a large-scale trigger of stop orders. HFTs do not always focus on earning revenue by buying and selling or vice versa. They will also use certain orders to earn rebates, which are provided to market participants to provide liquidity. See how HFT firms earn rebates and impact medium-frequency traders.
Stop-Hunting 2m
Reason for Clustering of Stop Orders 5m
Execution of Stop Hunting 5m
Profit Through Stop Hunting 5m
Hide and Light Orders 2m
Conditions to Claim a Rebate 5m
Grant of Rebate 5m
Way to Earn Rebate 5m
Risk of Hide and Light Orders 2m
Speed of Data Feeds 5m
Lowering Risk of Hide and Light Order 5m
Impact of Same Latency of ITCH and SIP Feeds 5m
Additional Reading 2m

Thin NBBO Liquidity
Due to the various games which HFTs play, other market participants are wary of providing liquidity. In the process, they will place orders which are of only 100 shares sometimes. Learn how this impacts the backtesting of medium-frequency traders’ strategies.
Thin NBBO Liquidity 2m
Reason for Placement of 100 Quantity Shares 5m
Feasibility of NBBO Price for Backtesting 5m
Consideration of Factors for Effective Backtesting 5m
Test on Knowledge of HFT Gaming Practices 10m
Additional Reading 2m

Ticking Strategy
In the world of trading at high speeds, every tick counts. A tick is a minimum change in the price of a security. In ticking strategy, HFT firms research and bid just one tick above the best bid to maximise their revenue. In this section, you will see if the ticking strategy works and how HFT firms use it to their own advantage.
Ticking Strategy 2m
Bid Price in Ticking Strategy 5m
Profitability of Ticking Strategy 5m
Factors to Consider in Ticking Strategy 5m
Ticking Strategy in Downtrend 5m
Interpretation of Bid and Ask Size 5m
Order Placement During Bid-Ask Imbalance 5m
Steps Taken When Ticking Strategy Fails 5m
Effect of Trend on Volatility 5m
Impact of Volatility on Ticking Strategy 2m
Use of Ticking Strategy 5m
Ticking Strategy in Volatile Markets 5m
Changes in Bid and Ask Volume 5m
Academic Research in Imbalance in Bid and Ask Volume 5m

Impact of Ticking Strategy
In this section, you will see the impact of the ticking strategy on medium-frequency traders. You will also get a glimpse of how dark pools can be used again by MFT traders.
Impact of Ticking Strategy on MFT 2m
Definition of Slow Market Makers 5m
Reason for No Order Fulfillment 5m
Definition of Adverse Selection 5m
Reason for Low Liquidity 5m
Use of Dark Pool Against MFT Traders 2m
Improvement of Order by Dark Pool Operator 5m
Execution of Sub-penny Ticking by MFT 5m
Execution of Sub-Penny Ticking 5m
Impact of Dark Pools on MFT 5m
Execution of Sub-penny Ticking by Dark Pool Operators 5m

Ratio Trade
Most markets operate on a first-come-first-serve basis. If your bid reached the exchange first, your bid would be executed first, and then other bidders with the same bid price would get their turn. But certain markets work on a pro-rata basis, where being first in line does not hold any special significance. In this section, you will see how HFTs use these markets to earn revenue with relatively less risk.
Ratio Trade 2m
Order Fulfillment in Time Priority Scenario 5m
Order Fulfillment in Pro-Rata Priority 5m
Advantage of Pro-Rata Priority for HFT 5m
Time of Order Placement in Pro-Rata Priority 5m
FAQ – Things to Keep in Mind 2m
Additional Reading 2m

Spoofing
Spoofing is an illegal practice where HFTs will place a large fake order to influence the market direction. Understand how this strategy is executed and why it is illegal.
Spoofing 2m
Impact of Total Bid Ask Volume on Price 5m
Spoofing Orders 5m
Execution of Selected Order 5m
After Execution of Spoofed Order 5m
Expectation After Cancellation of Large Order 5m
Extraction of Profit From Spoofing Orders 5m
Countering the Spoofing Strategy 2m
Reason for Illegality of Spoofing 5m
Call Bluff of Spoofing 5m
Reaction to Bluff Being Caught 5m
FAQ – Spoofing 2m
Additional Reading 2m

Other Ways HFT Wins
Research indicates that stop orders cluster around round numbers. Can someone take advantage of this fact? Understand how HFT and other market participants could force a large-scale trigger of stop orders. HFTs do not always focus on earning revenue by buying and selling or vice versa. They will also use certain orders to earn rebates, which are provided to market participants to provide liquidity. See how HFT firms earn rebates and impact medium-frequency traders.
Stop-Hunting 2m
Reason for Clustering of Stop Orders 5m
Execution of Stop Hunting 5m
Profit Through Stop Hunting 5m
Hide and Light Orders 2m
Conditions to Claim a Rebate 5m
Grant of Rebate 5m
Way to Earn Rebate 5m
Risk of Hide and Light Orders 2m
Speed of Data Feeds 5m
Lowering Risk of Hide and Light Order 5m
Impact of Same Latency of ITCH and SIP Feeds 5m
Additional Reading 2m

Thin NBBO Liquidity
Due to the various games which HFTs play, other market participants are wary of providing liquidity. In the process, they will place orders which are of only 100 shares sometimes. Learn how this impacts the backtesting of medium-frequency traders’ strategies.
Thin NBBO Liquidity 2m
Reason for Placement of 100 Quantity Shares 5m
Feasibility of NBBO Price for Backtesting 5m
Consideration of Factors for Effective Backtesting 5m
Test on Knowledge of HFT Gaming Practices 10m

An Overview of Types of Orders
HFTs employ a variety of order types for their gaming techniques, but certain order types can be optimised to counter these techniques. In this section, you will discover which order types can be used to build a defence by MFTs as well as which order types are used by HFTs for their gaming techniques.
Types of Orders 3m 15s
Define the Type of Order 5m
Order Type 5m
Defence Against HFTs 5m
Select the Order Type 5m

Immediate or Cancel Order
In this section, you will learn how to employ Immediate or Cancel (IOC) orders as a defence mechanism against HFT gaming strategies that cause toxic order flows and adverse selection
Immediate or Cancel Orders 4m 24s
IOC and Liquidity 5m
Market and Limit Order 5m
Adverse Selection 5m
Last-look Functionality 5m
Toxic Order Flows and Prevention of Adverse Selection 3m 46s
Impact of Adverse Selection 5m
Reason for Adverse Selection 5m
Toxic Order Flows 5m
Toxic Orders 5m
Last-look in Forex Markets 5m
FAQ on Immediate or Cancel Orders 2m
Additional Reading on IOC Orders 2m

Intermarket Sweep Order
In this section, you will learn about the mechanism of Intermarket Sweep Orders (ISOs). You will also learn the benefits that MFTs can gain by using this order type instead of a Non-ISO order type.
Pre-Reading on Intermarket Sweep Orders 2m
ISO and Regulation NMS 4m 42s
Rule 611 5m
Exception to Rule 611 5m
Intermarket Sweep Order 5m
ISO and Its Working 5m
Understanding ISO with an Example 3m 25s
Best Offer 5m
Average Price 5m
Non-ISO Drawbacks 5m
Additional Reading on Intermarket Sweep Orders 2m

ISO and Flash Crashes
Although ISOs can prove to be quite beneficial for MFTs, they are not free of limitations. This section explores the potential cautions of ISOs. It also studies certain theories behind the causes of flash crashes and the role of ISO in the occurrence of flash crashes.
ISO and Flash Crashes 6m 2s
Define a Flash Crash 5m
Cause of Flash Crashes 5m
One Cent Trades 5m
Stub Quotes 5m
Posting a Stub Quote 5m
ISO Execution 5m
Drawbacks of ISO 5m
FAQ on Intermarket Sweep Order 2m
Additional Reading on Flash Crashes 2m

Day ISO
While Day ISOs are usually used by HFTs, it’s important that we make ourselves familiar with this order type. In this section, you’ll learn about the uses of Day ISOs, how they work, and how they can be beneficial for HFTs. This section also compares Hide and Light orders with Day ISOs in order to clarify which order type is preferable and why.
Day ISO and Hide and Light Orders 3m 22s
Need for Hide and Light Orders 5m
Order Priority 5m
ISO and Day ISO 5m
Need for Day ISOs 5m
Benefits of Day ISO 5m
Additional Reading on Hide and Light Orders 2m

Dark Pools
Dark pools cover a substantial amount of transaction volumes. Therefore, it’s crucial for us to learn about this market. After completing this section, you will be able to define dark pools and explain their uses. You will also learn how market participants often abuse the system of dark pools and how you, as a trader, can avoid falling victim to such practices.
Use of Dark Pools 2m
Benefits of Dark Pools 5m
Dark Pool Orders 5m
Prices in Dark Pools 5m
NBBO and Dark Pool Liquidity 5m
Abuse of Dark Pools 2m
Midpoint Manipulation 5m
Order Execution 5m
Sub-Penny Trading 5m
Toxic Dark Pools 5m
Avoiding Toxic Dark Pool 2m
Measuring Adverse Selection 5m
Toxic Dark Pools 5m
Practices to Avoid Toxic Dark Pools 5m
Additional Reading on Dark Pools 2m
Test on IOCs, ISOs, Hide-and-Light, and Dark Pools 14m

Physics of MFT
What kind of infrastructure is needed to reduce the latency to 10 milliseconds? This section will cover three important things you will need to reduce the latency of your trading system.
Physics of MFT 2m 58s
Colocation 5m
Extranet 5m
ITCH Feed 5m
Virtual Private Server 5m
Advantage of ITCH Feed 5m
Live Trading Platforms 2m

Backtesting an MFT Strategy
This section explains the limitations of backtesting an MFT strategy. It also covers different aspects that an MFT trader should keep in mind while choosing a backtesting platform.
Backtesting an MFT Strategy 3m 02s
Purpose of Backtesting 5m
Order Execution Model 5m
Adverse Selection 5m
Backtest Gaming Strategies 5m
Choosing a Backtesting Platform 3m 54s
Language for Backtesting 5m
Scripting Language 5m
Special-Purpose Platforms 5m
API 5m
Backtesting Strategies 5m
FAQs on Choosing a Backtesting Platform 2m

Historical Tick Data
What are the different kinds of tick data? Where can you find the tick data for backtesting an MFT strategy? This section answers these questions by explaining the different kinds of tick data and discussing different sources for purchasing/renting historical data for backtesting an MFT strategy.
Historical Tick Data 5m 7s
Types of Tick Data 5m
Timestamp 5m
Calendar Spread Data 5m
Order Book Data 5m
Data in Tape Format 5m
Choosing a Data Vendor 5m
Additional Reading on Tick Data Vendors 2m
FAQs on Historical Tick Data 2m
Test on Backtesting, Historical Tick Data 14m

Order Flow Basics
In this section, you will learn the basics of order flow. This section also explains how order flow is used as an indicator.
Basics of Order Flow 2m 8s
Definition of Order Flow? 5m
Typical Structure of Order Flow Data 5m
Order Flow and Transaction Volume 5m
Calculate the Order Flow 5m
Order Flow as an Indicator 5m 9s
Order Flow Indicator 5m
Most Common Data Available 5m
Limitation of Ticker Tape Data 5m
ITCH Feed Data 5m
Aggressor Flag 5m
Best Order Flow Information 5m
Additional Reading for Order Flow Basics 2m
FAQs on Order Flow 2m

Calculate the Order Flow
This section explains the challenge of accurate order flow calculation. This section also discusses the tick rule and how to calculate order flow using the tick rule.
The Challenge of Accurate Order Flow Calculation 2m
Aggressive Traders 5m
Passive Traders 5m
Order Flow Calculation Accuracy 5m
Co-location for Order Flow Calculation Accuracy 5m
Advantage of Using ITCH Data 5m
Computing the Order Flow: Tick Rule 2m
Order Flow of Buy Market Order 5m
Basics of Tick Rule 5m
Order Flow of Sell Market Order 5m
Find the Order Flow Sign 5m
Method to Calculate the Order Flow 5m
Tick Rule for Order Flow Calculation 5m
Calculate the Tick Direction 5m
Ticks with Undefined Trade Direction 5m
Calculate the Order Flow 5m
Additional Reading for Order Flow Calculation 2m
Test on Basics and Calculation of the Order Flow 10m

Quote Rule and Lee-Ready Algorithm for Order Flow
This section discusses the quote rule and Lee-Ready Algorithm for order flow calculation. You will learn to implement the quote rule and Lee-Ready algorithm in Python.
Quote Rule and Lee-Ready Algorithm 4m 21s
Quote Rule for Computing Order Flow 5m
Buy Market Order 5m
Quote Rule for a Trade Above the Midpoint 5m
Drawback of the Quote Rule 5m
Lee-Ready Algorithm 5m
Lee-Ready Algorithm for Trades at the Midpoint 5m
Apply Quote Rule and Lee-Ready Algorithm 5m
Calculate the Midpoint 5m
Calculate the Trade Direction Using Quote Rule 5m
Additional Reading for Quote Rule and Lee Ready Algorithm 2m

Bulk Volume Classification
This section discusses Bulk Volume Classification (BVC) for order flow calculation. You will learn to implement the BVC method in Python.
Bulk Volume Classification 2m
Calculate Order Flow Using Bulk Volume Classification 5m
Data for Bulk Volume Classification 5m
Time Bars and Volume Bars 5m
Buy Volume 5m
Order Flow 5m
Calculate Time and Volume Bars 5m
Calculate the Volume Bars from Tick Data 5m
Bulk Volume Classification with Time Bars 2m
Gaussian CDF of Z-Score 5m
Calculate the Z-score of Price Change 5m
Bulk Volume Classification with Volume Bars 2m
Standard Deviation in the BVC Method 5m
Order Flow for Volume Bars 5m
Buy Volume for Volume Bars 5m
Calculate Order Flow with BVC 5m
Calculate the Order Flow Using The BVC Method 5m

Trade the Order Flow
In this section, you will learn to create trading strategies using the order flow. You will also create a strategy using the tick rule and backtest the strategy.
Trading the Order Flow 2m
Positive Order Flow 5m
Negative Order Flow 5m
Need for Order Flow Analysis 5m
Percentile-Based Order Flow Strategy 5m
Backtest The Order Flow Strategy 5m
Test on Calculating and Trading the Order Flow 14m
FAQ on Methods to Compute the Order Flow 2m

Capstone Project
In this section, you will undertake a capstone project. This project will require you to apply and practice the concepts learnt throughout this course.
Capstone Project: Getting Started 2m
Problem Statement 2m
Code Template and Data Files 2m
Capstone Project Model Solution 5m
Capstone Solution Downloadable 2m

Paper and Live Trading
To make sure that you can use your learning from the course in the live markets, a live trading template has been created which can be used to paper trade and analyse its performance. This template can be used as a starting point to create your very own unique trading strategy.
Steps to Set Up Alpaca Account and Get API Keys 2m
Template Code File 2m
Reducing the Latency 2m

Run Codes Locally on Your Machine
In this section, you will learn to install the Python environment on your local machine. You will also learn about some common problems while installing python and how to troubleshoot them.
Python Installation Overview 1m 59s
Flow Diagram 10m
Install Anaconda on Windows 10m
Install Anaconda on Mac 10m
Know your Current Environment 2m
Troubleshooting Anaconda Installation Problems 10m
Creating a Python Environment 10m
Changing Environments 2m
Quantra Environment 2m
Troubleshooting Tips for Setting Up Environment 10m
How to Run Files in Downloadable Section? 10m
Troubleshooting for Running Files in Downloadable Section 10m

Summary
In this section, we will summarise everything you have learned in this course.
Course Summary 5m 03s
Course Summary and Next Steps 2m
Python Codes and Data 2m

ABOUT AUTHOR
Dr. Ernest P. Chan
Dr. Ernest Chan is the Managing Member of QTS Capital Management, LLC., a commodity pool operator and trading advisor. QTS manages a hedge fund as well as individual accounts. He has worked in IBM human language technologies group where he developed natural language processing system which was ranked 7th globally in the defense advanced research project competition. He also worked with Morgan Stanley’s Artificial intelligence and data mining group where he developed trading strategies.

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REVIEWS

  LORENZO FUSINI  Administrator At Texture Snc, Italy
Quantra courses are very practical with many examples to help learn easily. I found that there is very less theory and more practice which is very helpful. I especially liked the coding exercises.

GERMAN MONTENEGRO  Developer, Argentina
Quantra always has good content that is easy to understand! The best part about the course is that it is a mix of theory and practice, which is a great way to learn and grasp concepts, as opposed to reading books or articles.