What is latency in trading?

Traders, whether new or professional, must have heard about latency in trading. Many brokers tend to advertise their latency times. But what is latency? In short, latency refers to the lag in execution after the trader initiates it.

Technically, it takes time for a trading order to move from the trader's system (or trading platform) to the exchange or trading venue where the order is processed and executed. This is why latency can cause your order to be executed at a different price than you expected.

That being said, what else do you need to know about latency in trading? How does latency affect your transactions?

What you need to know about latency

Latency is the speed at which operations take place. If there is too much latency, it means things are moving slowly. This can be problematic because it is difficult to obtain timely information from the market and respond quickly.

A common problem with latency and market data is called “data lag.” This phenomenon occurs when there are problems or slowdowns in the flow of information. Often, there is little you can do to remedy these problems because they are caused by failures in the exchange's computer systems or internet connections.

These problems can appear suddenly; sometimes traders don't notice them. They can be a real challenge when trying to place an entry or exit position. This is where latency becomes crucial. It can determine whether your transaction is going smoothly or turning into a problem.

How does latency affect your transactions?

Latency affects trading by potentially leading to less favorable trade executions, missed opportunities and increased risks. Here's how latency can impact your transactions.

1. Slipping

Slippage refers to the difference between the expected price of a trade and the actual price at which the trade is executed. Slippage is crucial for some traders, especially high-frequency traders and algorithmic traders. These strategies emphasize low price spreads and execution speeds, so any changes in these aspects can have a huge impact on profits and losses.

Imagine that you want to buy something on the market. You tell your computer to do it, but there is a lag because of your system or network. During this time, prices in the market change. When your order is finally executed, you may end up paying more than expected.

On the bright side, this can sometimes work in your favor. It's like a surprise discount. If your order is delayed, you may buy something at a better price than expected. This is called “positive slippage”.

2. Affected trading order

The success of a trading operation depends on the reliability of order execution. For this, market data must arrive on time, without any delay. This is how trading generally works:

     1. You (the trader) place an order on a trading platform.
     2. The broker you work with receives your order.
     3. The broker sends your order to the market.
     4. Your order joins a queue, waiting for its turn to be executed.

Delayed execution of an order may increase traders' exposure to market risks. For example, if you intend to use a stop-loss order to limit potential losses, latency may cause the order not to execute quickly. In fast-moving markets, such latency can cause traders to miss opportunities.

How to reduce latency

Reducing transaction latency is essential to staying competitive, achieving better results, managing risk and maximizing profitability.

Traders, particularly those engaged in high-frequency trading and algorithmic trading, are investing in cutting-edge technology and infrastructure to reduce latency and maintain a competitive edge in rapidly changing financial markets. Here's how you can reduce latency.

1. Direct market access

Direct market access (DMA) refers to a technology and service that allows traders to directly access financial markets and execute trades without the need for an intermediary, such as a broker.

With Direct Market Access, traders benefit from direct, unfiltered access to different trading venues.