Importance of Co-location
While discussing the disadvantages of Algo trading, we have come across the term Co-location cost. But what exactly is Co-location, and what is its importance in Algo trading?
The National Stock Exchange (NSE) started offering co-location facilities to some of its members in 2009 in exchange for a fee. A co-location facility or colo is principally a data center in which a business can rent space for servers & other computing hardware.
Materially, co-location services meant that the NSE would allow some brokers to keep their servers in the same building that houses the exchange.
It is a well-acknowledged gospel in the trading community that the first one to react to a news headline can use it to their advantage. Traders constantly thrive to cut down on their reaction time i.e., the time between the receipt of the new information and taking trades based on it.
In the race to be the fastest to respond, many broking firms have opted for the co-location facility. Its advantages include reduced latency i.e., the time taken by your trading system to respond to any trigger. The broad theme behind this idea is that your data (read instruction) travels much faster in case the server is located in the same building as the exchange. Hence, the order can be executed swiftly.
The difference of a few split-seconds would not cause any inconvenience as such to a normal trader but it can surely turn the tables for those into High-Frequency Trading (HFT) or market-making that require a sizable degree of technology & infrastructure expenditure.
From the perspective of a retail trader, the co-location facility has aided to form a more efficient marketplace by enabling quick price discovery. Additionally, the bid-ask spreads have been reduced on account of improved liquidity.
Present-day, almost every major broking firm in India such as Zerodha, Upstox, ICICI Securities, Sharekhan, Motilal Oswal, Angel Broking and so forth have availed this provision to facilitate faster execution of their client's trades.
As a matter of fact, The Bombay Stock Exchange is the fastest in the world with an order execution speed of 6 microseconds. It also boasts of being the fastest co-location service in India with a round-trip network latency of less than 10 microseconds.