Yes, and I'll tell you exactly why. Markets consist of informed and uninformed traders.
For example your typical Joe Sixpack rebalancing his 401k is uninformed. His trading does not tell you anything about the underlying value of the stocks. The typical informed trader is a hedge fund manager, who's investing tons of resources in gaining an informational edge. If he's buying a stock at a particular time that is in and of itself a signal that said stock is worth more than you thought it was otherwise.
Liquidity providers love trading with uninformed traders. The problem with informed traders is that you don't want to be on the other side of their trades. Since liquidity providers are the immediate counterparties to most order flow, they're the ones that primarily eat this cost.
To counter this, liquidity providers invest enormous resources in profiling order flow to try to identify when to what degree its informed. This allows them to provide lower costs and more liquidity to uninformed traders, like Joe Sixpack. It's analogous to how requiring a checkup allows life insurance companies to provide lower premiums, particularly to those who are healthy.
One of the most important ways to profile order flow is to quickly adjust quotes as market conditions evolve. For example said hedge fund manager may be trading a thesis that the chipmakers are all undervalued. He may come in and buy Intel, AMD and Nvidia in one swoop. If an HFT sees a huge buy hit Intel, it can bump its quotes on AMD for a few milliseconds.
If its a cigar-chomping hedge fund manager executing a basket algorithm, it's quite likely that he'll try to hit AMD and thus pay the higher price. But if its Joe Sixpack the probability that his trade just coincidentally lands in a 5 millisecond time window is vanishingly small.
For example your typical Joe Sixpack rebalancing his 401k is uninformed. His trading does not tell you anything about the underlying value of the stocks. The typical informed trader is a hedge fund manager, who's investing tons of resources in gaining an informational edge. If he's buying a stock at a particular time that is in and of itself a signal that said stock is worth more than you thought it was otherwise.
Liquidity providers love trading with uninformed traders. The problem with informed traders is that you don't want to be on the other side of their trades. Since liquidity providers are the immediate counterparties to most order flow, they're the ones that primarily eat this cost.
To counter this, liquidity providers invest enormous resources in profiling order flow to try to identify when to what degree its informed. This allows them to provide lower costs and more liquidity to uninformed traders, like Joe Sixpack. It's analogous to how requiring a checkup allows life insurance companies to provide lower premiums, particularly to those who are healthy.
One of the most important ways to profile order flow is to quickly adjust quotes as market conditions evolve. For example said hedge fund manager may be trading a thesis that the chipmakers are all undervalued. He may come in and buy Intel, AMD and Nvidia in one swoop. If an HFT sees a huge buy hit Intel, it can bump its quotes on AMD for a few milliseconds.
If its a cigar-chomping hedge fund manager executing a basket algorithm, it's quite likely that he'll try to hit AMD and thus pay the higher price. But if its Joe Sixpack the probability that his trade just coincidentally lands in a 5 millisecond time window is vanishingly small.