Paul Krugman, "Three Expensive Milliseconds": High FrequencyTrading and the Increasingly Unlevel Playing Field

You will recall that in a prior blog entry entitled "David Brooks, "The Moral Power of Curiosity": Can You Beat High-Speed Traders?" (http://jgcaesarea.blogspot.co.il/2014/04/david-brooks-moral-power-of-curiosity.html) I wrote:

"High-frequency trading? A friend recently related the following story to me:

"I had placed an order to buy shares of XXXX, and my order had been the bid for quite some time. I suddenly decided that the market was going lower and that I could buy the shares at a better price. Using my laptop, I attempted to cancel my bid, but within a second my bid was hit, and I had bought the shares."

Coincidence? No. Before the cancellation of my friend's order could be effected, this information had been routed to high-speed traders, and they had sold him the shares. Or stated otherwise, their computers had been "informed" that his cancellation was electronically en route, and they beat his cancellation by a nanosecond. Corrupt? Absolutely.

. . . .

The game is indeed rigged, and, with the cancellation of the Uptick Rule (see: http://jgcaesarea.blogspot.co.il/2013/08/maureen-dowd-summers-of-our-discontent.html), small investors are being milked every day by large financial institutions.

Can you still beat the system? I think so. But only with a strong heart, a long-term outlook and sufficient examination of a corporation's innovation, management and value proposition."

Or stated otherwise, before your stock exchange instructions are executed, the big boys' algorithms are going to decide whether or not it is to their advantage to allow those instructions to be effected.

You want to buy or sell shares? You might have to pay a little more - something akin to a tax - in order to prevent the hedge funds from acting a nanosecond ahead of you.

In his latest New York Times op-ed entitled "Three Expensive Milliseconds" (http://www.nytimes.com/2014/04/14/opinion/krugman-three-expensive-milliseconds.html?partner=rssnyt&emc=rss&_r=0), Paul Krugman also reflects on Michael Lewis's new book “Flash Boys” and writes (my emphasis in red):

"You may or may not buy Mr. Lewis’s depiction of the high-frequency types as villains and those trying to thwart them as heroes. (If you ask me, there are no good guys in this story.) But either way, spending hundreds of millions of dollars to save three milliseconds looks like a huge waste. And that’s part of a much broader picture, in which society is devoting an ever-growing share of its resources to financial wheeling and dealing, while getting little or nothing in return.

. . . .

But if our supersized financial sector isn’t making us either safer or more productive, what is it doing? One answer is that it’s playing small investors for suckers, causing them to waste huge sums in a vain effort to beat the market. Don’t take my word for it — that’s what the president of the American Finance Association declared in 2008. Another answer is that a lot of money is going to speculative activities that are privately profitable but socially unproductive."

When was the last time you heard me say that I agree with Krugman? Well here Krugman is mostly right: High frequency trading is indeed milking small investors, but there is nothing "speculative" about it. High frequency trading is guaranteed to make billions of dollars at the expense of small investors.

And just what is the Obama administration doing about it? That's right . . . nothing.

David Brooks, "The Moral Power of Curiosity": Can You Beat High-Frequency Traders?

I have yet to read Michael Lewis's bestseller "Flash Boys" - I am mired in a history of the Knights Templars - but I will certainly get to it. High-frequency trading? A friend recently related the following story to me:

"I had placed an order to buy shares of XXXX, and my order had been the bid for quite some time. I suddenly decided that the market was going lower and that I could buy the shares at a better price. Using my laptop, I attempted to cancel my bid, but within a second my bid was hit, and I had bought the shares."

Coincidence? No. Before the cancellation of my friend's order could be effected, this information had been routed to high-speed traders, and they had sold him the shares. Or stated otherwise, their computers had been "informed" that his cancellation was electronically en route, and they beat his cancellation by a nanosecond. Corrupt? Absolutely.

In his latest New York Times op-ed entitled "The Moral Power of Curiosity" (http://www.nytimes.com/2014/04/11/opinion/brooks-the-moral-power-of-curiosity.html?partner=rss&emc=rss), David Brooks examines the market-rigging described in Lewis's book. Brooks writes:

"On Wall Street, as in some other areas of the modern economy that I could mention, this attitude leads to a culture of knowingness. People learn to bluff their way through, day to day. Executives don’t really understand the complex things going on in their own companies. Traders don’t understand how their technological tools really work. Programmers may know their little piece of code, but they don’t have a broader knowledge of what their work is being used for.

These people are content to possess information, but they don’t seek knowledge. Information is what you need to make money short term. Knowledge is the deeper understanding of how things work. It’s obtained only by long and inefficient study. It’s gained by those who set aside the profit motive and instead possess an intrinsic desire just to know."

Information? Knowledge? An "intrinsic desire to know"? Do I care?

The game is indeed rigged, and, with the cancellation of the Uptick Rule (see: http://jgcaesarea.blogspot.co.il/2013/08/maureen-dowd-summers-of-our-discontent.html), small investors are being milked every day by large financial institutions.

Can you still beat the system? I think so. But only with a strong heart, a long-term outlook and sufficient examination of a corporation's innovation, management and value proposition.