Think Trading Volume for Stocks is Down? Think Again

Econintersect:  There have been many observers calling the recent decline in daily stock trading volumes a sign that markets are not generating enough investor interest to stay at the levels reached in recent months.  According to Tom Steinert-Threlkeld at Securities Technology Monitor, volume at the New York Stock Exchange (NYSE) has declined 10% in just the last month and 16% from a year ago.  Steinert-Threlkeld reports that NASDAQ actually saw a steeper decline in trading volumes than did the NYSE.  The overall volume of stocks traded per day has fallen by more than 30% in the past three years from the all-time high reached in the middle of 2009.  So that makes the outlook for demand for stocks look pretty dismal, doesn’t it?  Well, don’t forget the rest of the headline and think again.The following graphic from Securities and Technology Monitor shows the trading volume history for U.S. stocks.  If the current trading volume had been reached in the first half of 2006 or any time before that the headline would be scream:  “Stock Trading Volumes at an Astounding All-Time High.”

Of course there is a reason why stock trading volumes are higher.  The practice of High Frequency Trading (HFT) has become a significant contributor to daily volumes.  HFT is a process in which computers trade with each other at millisecond speeds (and even faster) in an attempt to skim tiny fractional gains per share out of trades of large blocks of stock.

Computers are responsible for placing more and more of stock trade orders.  The process, known as algorithmic trading (algo trading), contains HFT as a subset of the activity.  Other Algo traders include institutional investors such as pension funds, large mutual funds and the like to try to optimize trade block sizes and obtain the most favorable buy and sell prices.  These are not HFT operators.

It is difficult to get a number of estimates that agree on what the vloume of trades generated by HFT actually is.  Last fall The New York Times reported that that approximatelyt 60% of all stock trades were computer generated.  Another 2011 NYT article by Graham Browley associated the 60% figure with HFT.  Wikipedia says that 73% of all trades in 2009 were HFT.

With all the confusion it is difficult to decide just what the average daily trading volume is that comes from HFT.  If it is 73%, then the non-HFT daily volume would average about 1.3 billion shares.  That would be the same volume as the total volume in 1997, when the tech bubble boom was building.

If the lower estimate of 60% for HTF obtains, then the daily volume for non-HFT trading would be about 1.9 billion.  That would put the non-HFT volume in the same area as in 1999 when the dot.com boom was reaching a feverish pitch.

Editor’s note: So we are in trouble in 2012 if the demand for stocks is as weak as it was in the late 1990s?  I won’t buy that buy that bridge, even if you give me an all-expense paid trip to Brooklyn to look at it.  But if we are going to compare to 1999 that would suggest that there might be reason to be worried a year from now.  This observer thinks the declining volume numbers are nothing that should have any bearing on what guesses one might make about the direction for stocks for the next 6-9 months.  Better spend your time looking at more important things like earnings, sector rotations, etc.

John Lounsbury

Sources:

• U.S. Equity Volumes at More than Four-Year Low (Tom Steinert-Threlkeld, Securities Technology Monitor, 10 August 2012)

• High-frequency trading (Wikipedia)

• Algorithmic trading (Wikipedia)

• High-Frequency Trading (The New York Times, 10 October 2011)

• Fast Traders, in Spotlight, Battle Rules (Graham Bowley, The New York Times, 17 July 2011)