Exchange Colocation - worth it or not?
Automated trading requires a server, and it often makes sense to collocate it. Even discretionary traders these days can rely on certain automation that may be better off on a server. Tools like NinjaTrader allow “customer assisted trading” where a position automatically gets a profit target and stop loss, even with automatic adjustments. While not a replacement for a full trading strategy, a discretionary trader can use these tools to take a lot of stress from entering and updating those stops and targets.
The term server colocation is not one from the financial industry, and it has actually two meanings. Technically, colocation means putting your hardware to your provider, and has, in the recent years, changed into “putting your own hardware to a data center”, or “renting a server at a data center”. The finance guys – often out of ignorance – have hijacked this term, ad in the financial industry “colocation” is identical with “at an exchange”. Pretty much every exchange these days offers colocation services – one is as close to the action as possible (in the same place the exchange is doing their order matching). The prices are often accordingly. Which means extremely high.
The question now is – is exchange colocation a worthy investment or not? Especially – given that all exchanges are in major economic hubs. Chicago houses the CME Group, New York has a multitude of exchanges. All major cities do not only have exchanges but with a little Google one can also find independent data centers. For a much better price. The difference can be significant – we are renting servers in Chicago for less than the space at the CME would cost. Only that our price includes not only significant internet (10 TB per server that we really never use) but also the hardware.
So the question is – is colocation at an exchange worth it? Let us have a look at the differences.
Variety of offers
Offers at an exchange are often limited, unless one does not deal directly with the exchange but goes through an intermediate (that will charge extra). Exchanges may only offer very coarse granularity (for example a complete rack, instead of space for a small rack server). Large data centers are often used by a variety of internet providers that offer much more diverse and complete packages.
This is a serious advantage for a colocation outside of an exchange. If I just want to put in a small server then I can get better and more diverse offers without collocating at an exchange. And competition is good for the pricing. If I am a large operation and intend to put multiple servers at the exchange, then obviously the lack of hardware offers (I want my own anyway) and the non-granular offerings (I want a rack or more anyway) are not a disadvantage.
That being said, there often are specialized providers that offer servers or virtual machines optimized for trading. And a small setup can as well run from a virtual machine without large disadvantages – in fact, our own trading happens from virtual machines (although we do control the hardware and rend the complete server for less than the price of a comparable virtual machine from Speedy Trading Servers). There also are often offers provided by the broker for only his customers for a decent price.
For anyone but the biggest outfits, the price of the infrastructure is a significant issue. Colocation at an exchange is expensive. Prices are often ridiculously high, compared to “run the mill” colocation at a data centre. The exchange knows it can rent out the limited space it has in the same location as the matching engines for top prices. Rack prices of 15000 USD per month are not unheard of. I can get a rack for 1000 USD per month at a normal data centre and that will include a lot of internet bandwidth. I also have a lot cheaper technicians available to do the cabling – unless obviously I am physically located close to the exchange and can just drive there and do the work myself.
This one is obviously a win for the exchange. Being colocated at an exchange, in the same building, means that bandwidth is a non-issue. LAN bandwidth is a lot higher than WAN – internet – bandwidth. Matter of fact. Latency is also lower. A datacenter can be close to the exchange buildings. The old CME location in the center of Chicago had internet providers rending space in the same or next house. The new CME location is out of the city – in Aurora – but this is not exactly “out in the nowhere” and there are close data centers that provider have offers in.
We use one of those, and we have a 1 ms latency to the exchange. This makes this type of hosting totally unusable for any high frequency trading. If you need to be fast – as fast as possible – then exchange colocation is the only way to go. There is no alternative to this. If you need the raw data feed of the exchange, from the exchange, then exchange colocation is a must. Again, no alternative to this.
At the end: Exchange colocation is worth it when you need it
Otherwise exchange colocation is expensive and you gain nothing. Offers such as Speedy Trading Servers and other VPN providers can mitigate some of the price and convenience issues, but they never go the full way to a regular internet provider. The main reason being too small volume and the high base cost for every server they put at the exchange.
The regular API developer, back testing on a normal commercial data feed. One with an edge that runs in the second to minute area. He has no real advantage from paying the price of exchange colocation and is much better off to seek a good offer from a close provider.