Retail investors who feel whiplashed by the high levels of unpredictability within capital markets can lean into this volatility by utilising the largely misunderstood fine art of high-frequency trading and arbitrage.
Well before artificial intelligence (AI) was even in short pants, high-frequency trading arbitrage firms were pioneering the use of big data on which they ultimately built their fortunes.
What these firms do with big data is look for things to trade thousands of times a day to capture fractions of a cent multiple times.
While this explains the value of high frequency, arbitrage is simply the financial equivalent of "bargain hunting" to flip a product for an immediate, near-certain profit.
By doing this, Jim Simons, founder of Renaissance Technologies, was widely considered a more successful investor - in terms of average annual returns - than Berkshire Hathaway’s Warren Buffett.
While Simons’ flagship Medallion Fund has achieved an astronomical 63% gross average annual return for the last 45 years, since taking over Berkshire Hathaway in 1965, Buffett has averaged a 19.8% to 22% annual return.
HFT firms in Australia
To put the success of Simons’ high-frequency trading (HFT) model into context, $10,000 put in 45 years ago is worth around $180 million today.
While Renaissance Technologies’ Medallion Fund is almost exclusively available to current and past employees and their families, there are businesses in Australia that undertake high-frequency trading, like Dutch-founded firm Optiver, Tibra Capital, Susquehanna International Group, Mortgage Capital Trading (MCT) and ARK.
With the exception of ARK, you have to be a staff member to participate in the profits that these firms generate.
Some years ago, Darling-Harbour-based ARK saw an opportunity to use its algorithms to extract good profits from exploiting the volatility and arbitrage opportunities on cryptocurrencies, like Bitcoin, Solana and Ethereum.
Based on its success, ARK went on to establish a fund called the Digital Assets Funds Management - Digital Income Fund (DAFM), which has delivered returns of 22.5% annually over the last four years and has experienced only one negative month over that entire time.
While the fund remains off limits to retail investors, it is currently available to wholesale investors – typically those earning at least $250,000 in gross income annually.
Wholesale investors can tap local fund
While gaining access to this highly secretive, algorithmic high-frequency trading strategy isn’t easy, Montgomery Investment recently partnered with the DAFM fund to distribute this fund in Australia.
In layman’s terms, what this fund aims to do is capitalise on the volatility and pricing inefficiencies across global asset exchanges.
“We think it’s unique from a diversification perspective, and over the last four years, every single time the S&P 500 has fallen, the fund has generated a positive return,” said Montgomery Investment’s founder and chairman, Roger Montgomery, who reminds investors that this represents proper rebalancing of portfolios.
“If you want to take profit from the AI bubble, you don’t want to put it back into something else that has stock market exposure; you want to put it into something that’s truly diversifying for your portfolio, and this could be a solution.”
Small inefficiencies
What’s unique about this alternative asset, adds Montgomery, is that it’s doing something that is very hard to access anywhere else.
Clint Maddock, cofounder and director of DAFM, reminds investors that a market-neutral position means the fund is agnostic to the direction of the market.
“Rather than trading a lot of Bitcoin or Ethereum, what the fund does is constantly scan for small inefficiencies on a particular exchange or between exchanges,” he notes.
“The algorithm automatically trades those inefficiencies – in 10s of milliseconds – by constantly scanning and rebalancing.”
Beyond Australia, wholesale and institutional investors can access high-frequency trading (HFT) in the U.S., primarily through specialised proprietary firms, hedge funds, or by utilising sophisticated infrastructure provided by select institutional brokers.
While HFT is dominated by massive firms like Citadel Securities and Virtu Americas, smaller wholesale investors can participate via high-tier brokerage APIs and dedicated "HFT-friendly" proprietary trading platforms.
