# RBC guy from Lewis's book... oh come on



## james4beach (Nov 15, 2012)

This Michael Lewis book is getting a lot of press, but I'm getting pretty sick of hearing interviews with this so-called "hero" Katsuyama from RBC and this misplaced praise... his over-the-top claims of morality are sickening.

They aired another interview with him this morning on CBC's The Current. I'm trying to quote him, somewhat roughly:



> Brad Katsuyama: "I feel that my obligation is to get the best prices for these pension funds and customers. It was like a sense of morality... Something about my life, I've always been close with my parents and had a close group of friends"


(Rolls eyes). Please, everyone, before you take Lewis's story and Katsuyama too seriously, please realize it's a STORY that's been heavily embellished. The book describes his roots from the humble emtpiness of Markham. I mean come on?

But look at the statements he's making in the media. *He's being dishonest*. He has a career as an investment banker at RBC, and these guys make incredible amounts of money from the orders they fill for pension funds and mutual funds. They do things like ripping off FX spreads from customers and finding other trade efficiencies, where the bank takes the bulk of the price savings and maybe passes on a little bit to the customer. _A better stock fill means the bank's income goes up (not a savings for the customer)_. So when HFT was screwing up their fills, it was really hurting the bank, and that's what he was trying to "solve". It wasn't morals and ethics and concern for the customer, come on, he's lying.

For RBC and other big banks, HFT represents an external annoyance that cuts into their profit margin. Don't be naive and think this is about passing on savings to customers/pension funds. This is all about the bank's profit margin... more efficient trade = lower cost for the bank, and a LARGER amount they're skimming from the customer.

Additionally, he clearly said during this interview that he was in "risk trading" at RBC. Risk trading refers to trading of securitisation instruments such as packaged loans, packaged mortgages, and credit instruments. You know, the stuff that nearly destroyed the market. If anyone cares to be a real journalist, maybe they should start investigating Katsuyama's history in mortgage and credit derivatives trading. Was his "sense of morality" also guiding him when he sold bad credit instruments to pension funds?


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## dBII (Mar 12, 2013)

The conspiracy theorist in me is beginning to perk up. Even though 60Minutes has all but destroyed their own credibility, I still watched the segment on HFT and Katsuyama and saw exactly what you are saying. Poor humble investment bankers are being swindled by fast-talking gung-ho HFT pirates like Mark Gorton (ex of Limewire fame, now an HFT specialist)...they need to set themselves up a charity food drive. Something really stinks in this and it strikes me as odd how a Canadian investment banker has somehow become one of the spokesmen for this rather than an American.


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## james4beach (Nov 15, 2012)

And he's all over the media. Everywhere I look! I've seen him do interviews on Bloomberg TV, he's also been on US public radio -- twice. Twice on CBC radio alone (I don't know about CBC TV). I think there's some vilification of HFT going on... the Justice Dept is now looking into HFT to determine if they're illegal, by the way. The story overall is also great for RBC's image.

I don't know if this is part of the story, but RBC's own prop trading division (based in NY) is in tough times and is basically dissolving. A lot of their people, like Katsuyama, are dispersing elsewhere. I interviewed for this division recently and discovered things were very bleak over there.

I can't piece it all together either, but something aint right


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## HaroldCrump (Jun 10, 2009)

This individual also appeared on the LOLX (CBC NN) 2 weeks ago.
I can totally understand how this individual is trying to be an overnight financial media success story.
There could be more TV shows coming, maybe a book of his own, movie rights, who knows....

BTW, here is a different perspective on the HFTs by Jim Rickards.
He is saying that HFTs are a problem, but not for the reason Michael Lewis says.

http://www.standard.co.uk/comment/j...lanche-in-the-history-of-finance-9261803.html


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## underemployedactor (Oct 22, 2011)

Great article. Makes me want to read his book The Death Of Money. Anyone read it?


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## Cal (Jun 17, 2009)

I am guessing that some of you have not read the book yet. I recommend it. Flash Guys is more about the speed of the HFTs, and how the exchange he built takes that out of the equation. IMO the inside information the banks (dark pools) and the HFTs used by obtaining buy/sell information prior to it even being executed equates to using insider information IMO, which is a criminal offense, however what they were doing there were no laws against.


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## rebel_ins (Apr 6, 2009)

Cal said:


> IMO the inside information the banks (dark pools) and the HFTs used by obtaining buy/sell information prior to it even being executed


How are the HFTs obtaining that information?


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## kcowan (Jul 1, 2010)

rebel_ins said:


> How are the HFTs obtaining that information?


They see all the incoming orders before anyone else and decide to place the same order before it hits the exchange, beating the original order. Although it is actually front-running, doing it they way they do makes it legal. Because they are taking advantage of their speed, nothing else.


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## Just a Guy (Mar 27, 2012)

They basically place small lot bids (100 units) with the lowest ask price on the exchange that gets hit first, or the exchange where the brokers get paid to trade on. When it sells, they use their faster connections to get to the other exchanges before the people using he regular connections. The rules say that brokers are supposed to take the lowest prices first, so HFTs take advantage of the system. They also pay the banks with "dark pools", where banks match with internal buyers and sellers before going to the general market, for the access to their trading information before it goes out to the general market...

There are probably many other ways of taking advantage of the rules...


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## rebel_ins (Apr 6, 2009)

kcowan said:


> They see all the incoming orders before anyone else and decide to place the same order before it hits the exchange, beating the original order. Although it is actually front-running, doing it they way they do makes it legal. Because they are taking advantage of their speed, nothing else.


I'm sorry but HFTs cannot see an order "coming in", "before it hits the exchange". They see the orders exactly as they are fed by the exchange, _after_ they have "hit" the exchange. It is true that HFTs will typically have a direct connection to the exchange, but anyone can get a direct data feed if they want to. They are not using insider information. In fact, many investors benefit from direct feeds and co-location through their broker without knowing it.

"Front running" has a very specific meaning in market regulation, and implies and agency/principal relationship. HFTs do not have a fiduciary duty to act as our agents. An HFT may well beat other traders using their technology as a _competitive_ advantage, but that's not front running.


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## randomthoughts (May 23, 2010)

rebel_ins said:


> <snip>
> "Front running" has a very specific meaning in market regulation, and implies and agency/principal relationship. HFTs do not have a fiduciary duty to act as our agents. An HFT may well beat other traders using their technology as a _competitive_ advantage, but that's not front running.


I dunno, as described, it sure sounds like technological front-running.

As far as the people involved, it's not uncommon to media-whore - it probably doesn't make sense NOT to media-whore.


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## rebel_ins (Apr 6, 2009)

randomthoughts said:


> I dunno, as described, it sure sounds like technological front-running.
> 
> As far as the people involved, it's not uncommon to media-whore - it probably doesn't make sense NOT to media-whore.


HFTs are not acting as agents, and they cannot see orders before they hit the markets. They cannot front run anyone.

This blog explains it better than I can: http://www.chrisstucchio.com/blog/2014/mark_cubans_hft_idiocy.html

Also, one can gain an advantage that is not necessarily dependent on technology. If a trader wants to buy large amounts of shares of a stock, the trader knows that the demand for that stock has changed in a significant way. That's valuable information, the kind that Katsuyama was getting paid $2M a year to act upon but got beat by smarter traders.


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## randomthoughts (May 23, 2010)

rebel_ins said:


> HFTs are not acting as agents, and they cannot see orders before they hit the markets. They cannot front run anyone.
> 
> This blog explains it better than I can: http://www.chrisstucchio.com/blog/2014/mark_cubans_hft_idiocy.html
> 
> Also, one can gain an advantage that is not necessarily dependent on technology. If a trader wants to buy large amounts of shares of a stock, the trader knows that the demand for that stock has changed in a significant way. That's valuable information, the kind that Katsuyama was getting paid $2M a year to act upon but got beat by smarter traders.


The article seems to have a problem with Cuban's article not Lewis/Katsuyama's claims. 

Perhaps this would be a better link:
http://www.chrisstucchio.com/blog/2014/fervent_defense_of_frontrunning_hfts.html

He doesn't so much have an issue with what's being described as by terminology - frontrunning vs. predatory trading, distinguished by whether the person doing it has a fiduciary duty to you.

I can kind of see his point - the person making the huge buy/sell has an advantage - he knows what he's going to to do. What Stucchio is calling the predatory trader basically negates this advantage by ensuring the originator's demand is incorporated into the price before the demand is completely filled.

That being said, it seems a stretch to consider one's knowledge of one's own actions to be 'insider trading' - even if I'm the only one who knows it. 

If, as claimed, IEX can negate predatory trading by ensuring that their orders reach the exchanges at the same time, then I'd feel that's well worth knowing/acting on. That being said, I'm not an institutional/large investor - so I don't think it affects me directly at all.

Not an expert, just interested from the academic side.


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## rebel_ins (Apr 6, 2009)

randomthoughts said:


> That being said, it seems a stretch to consider one's knowledge of one's own actions to be 'insider trading' - even if I'm the only one who knows it.


I don't think that's what the author is trying to imply. It would only be insider trading if those actions are based on non-public information about the stock's underlying company.



randomthoughts said:


> If, as claimed, IEX can negate predatory trading by ensuring that their orders reach the exchanges at the same time, then I'd feel that's well worth knowing/acting on.


It is probably worth it for their clients. Whether it improves the markets as a whole remains to be seen. Many academics have argued that HFTs actually make markets more efficient and benefit retail investors. Let's also not forget that IEX is currently a dark pool. IEX claims to have plans to become an exchange, but its most vocal backers belong to a class of investors (hedge funds, institutional investors) that tends to favour dark pools and trade secrecy, away from the central exchanges. Some of these backers may be richer than all US HFTs put together.



randomthoughts said:


> Not an expert, just interested from the academic side.


Not an expert myself, but I worked as an engineer at an HFT firm that went under. A book that helped me at the time is Trading and Exchanges: Market Microstructure for Practitioners. I might be a bit biased, and I haven't read Lewis' book. But from what I've seen in his interviews his arguments against HFT amount to "computers are much faster than humans". It is not that simple, and unfortunately most of his audience will not educate themselves beyond his book.


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## Rusty O'Toole (Feb 1, 2012)

rebel_ins said:


> How are the HFTs obtaining that information?


They pay a fee to get the information first. And build or buy equipment that is faster than anybody else's. With today's computers all they need is a split second head start to front run anybody.


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## rebel_ins (Apr 6, 2009)

Rusty O'Toole said:


> They pay a fee to get the information first. And build or buy equipment that is faster than anybody else's. With today's computers all they need is a split second head start to front run anybody.


They pay a fee to get a direct data feed, which everyone in their field of work does, including non-HTF trading firms. Of course they will receive information before those who are on a slower connection, but that is not front running; I think you are abusing the term.
In any case, my question was rhetorical. The post I was replying to when I asked it claimed that HFTs were using insider information, without describing the mechanics of how that would work. Technology by itself does not give access to insider information. You still need to be, or have access to, an insider.


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## Rusty O'Toole (Feb 1, 2012)

Have any of you read the book? Katsuyama describes how he found out about the problems as a trader for RBC. It got so he could not trade successfully anymore because someone, or something was squeezing all the profit out of his trades. It turned out to be the HFT algos. So he designed his own algo to foil them, by getting all his orders to the various brokerages at the same time.

He also found out the same problem was endemic in the financial world, which led to his efforts to exploit this and make a profit by building an exchange where everyone could trade without paying a toll to the HFT algos.

So, he found a need and he is filling it, the classic description of a startup business. No doubt the book and the interviews are helping launch the new company.


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## Rusty O'Toole (Feb 1, 2012)

"From Nick Colas of Convergex

Stimulus & Response: HFT Survey Results

Summary: We recently completed an online survey of ConvergEx customers and partners on the subject of U.S. equity market structure, with 357 responses largely (65%) from our institutional buy-side clients and prospects. The headline number is startling: fully 70% of survey participants do not believe that equity markets are “Fair for all participants”. Part of the blame resides with the role of High Frequency Trading (HFT) in current market structure. A small majority (51%) believes it is either “Harmful” or “Very Harmful” to market participants, while only 19% believe it is “Helpful” or “Very helpful”. Our survey also indicates very much a “Wait and see” approach to how these professionals view the current landscape. Seventy one percent have made no changes to the way they interact with U.S. equity markets. Opinion is pretty evenly split – 43% versus 38% - on whether more regulation is better than the rules currently on the books. Our takeaway: when 70% of market participants think markets are unfair, something’s got to give."

Isn't it interesting that only 65% of the participants work on the buy side while 70% think markets are unfair.

I got the information here:

http://www.zerohedge.com/news/2014-04-24/what-professional-buyside-traders-really-think-hft


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## rebel_ins (Apr 6, 2009)

Katsuyama found what was a problem _for him_. It is not at all a given that these "problems" are endemic - they do not affect the vast majority of retail investors. I don't see anything wrong with him starting a dark pool, soon-to-be exchange, to suit specific needs. However, I think it is dishonest on his part to claim that HFTs are rigging the market, especially considering that Einhorn, who has a stake in IEX, was fined for insider trading just two years ago. Ackman, who has also invested in IEX, has allegedly engaged in insider trading, making about $1 billion in the process. HFTs are not without problems, but they are very small in the grand scheme of things. Einhorn makes $80 million a year. Very few HFT _firms_ make that much in revenue, let alone profits.

The ConvergEx survey is not a scientific study - especially with 65% of the participants on the buy side.

From Flash Boys for the People:


> These advantages were demonstrated in a recent natural experiment set off by Canada’s stock market regulators. In April 2012 they limited the activity of high-frequency traders by increasing the fees on market messages sent by all broker-dealers, such as trades, order submissions and cancellations. This affected high-frequency traders the most, since they issue many more messages than other traders.
> 
> The effect, as measured by a group of Canadian academics, was swift and startling. The number of messages sent to the Toronto Stock Exchange dropped by 30 percent, and the bid-ask spread rose by 9 percent, an indicator of lower liquidity and higher transaction costs.
> 
> But the effects were not evenly distributed among investors. Retail investors, who tend to place more limit orders — i.e., orders to buy or sell stocks at fixed prices — experienced lower intraday returns. Institutional investors, who placed more market orders, buying and selling at whatever the market price happened to be, did better. In other words, the less high-frequency trading, the worse the small investors did.


The academic paper detailing the Canadian experiment can be downloaded here: http://qed.econ.queensu.ca/pub/faculty/milne/322/IIROC_FeeChange_submission_KM_AP3.pdf. Other papers are referenced in the article.

Also, from http://pages.stern.nyu.edu/~jhasbrou/Teaching/2014 Winter Markets/Readings/HFT0324.pdf:


> Based on the vast majority of the empirical work to date, HFT and automated, competing markets improve market liquidity, reduce trading costs, and make stock prices more efficient. Better liquidity lowers the cost of equity capital for firms, which is an important positive for the real economy. Minor regulatory tweaks may be in order, but those formulating policy should be especially careful not to reverse the liquidity improvements of thelast twenty years.


These academics have no skin in the game. They have no financial incentive to take sides in the debate, unlike the hedge fund managers who invested in IEX.

Here is another quote from an SEC study http://www.sec.gov/comments/s7-02-10/s70210-54.pdf:


> The nature of trading changed as “high frequency” and “algorithmic” trading grew to dominate trading volumes. (...) These changes substantially improved market quality. Virtually every dimension of U.S. equity market quality is now better than ever. Execution speeds have fallen, which greatly facilitates monitoring execution quality by retail investors. Retail commissions have fallen substantially and continue to fall. Bid-ask spreads have fallen substantially and remain low, although they spiked upward during the financial crisis as volatility increased. Market depth has marched steadily upward. Studies of institutional transactions costs continue to find U.S. costs among the lowest in the world.


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## Cal (Jun 17, 2009)

I would argue if it is a probelm for him, it is a problem for us too. I don't think that Katsuyama feels that HFT are riggin the market, or that he actually has a problem with HFT at all.

I don't mind losing a race to someone who is faster, stronger, more agile, but I do have a problem if they get to start 30 feet ahead of me in a 100 yard dash. A fair playing field is all he is asking for.

I do think that most on here should probably read the book before posting, it is a good read, as are almost all of Michael Lewis' books.


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## Rusty O'Toole (Feb 1, 2012)

For those who have not read the book.... here is an extract from Michael Lewis's book in the form of a New York Times article that explains the problem.

http://www.nytimes.com/2014/04/06/magazine/flash-boys-michael-lewis.html?hp&_r=2


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## rebel_ins (Apr 6, 2009)

Cal said:


> I would argue if it is a probelm for him, it is a problem for us too.


Can you expand on why you think that? Why is that a problem for us? Empirical evidence and academic studies strongly suggest that HFT activity is beneficial to retail investors. I am a retail investor. Why should I take Katsuyama's word? What does Katsuyama have to offer besides his personal experience, trading on behalf of clients that are not in any way, shape or form representative of the average retail investor? John Bogle of Vanguard fame says that Lewis is wrong about rigged markets, and that we are better off with HFT than without it. Should I trust Bogle, or Katsuyama? 



Cal said:


> I don't think that Katsuyama feels that HFT are riggin the market, or that he actually has a problem with HFT at all.


Katsuyama told BATS CEO (quite a number of HFT trade on BATS) "I believe the markets are rigged, and you're part of the rigging." He definitely has a problem with HFT.



Cal said:


> I don't mind losing a race to someone who is faster, stronger, more agile, but I do have a problem if they get to start 30 feet ahead of me in a 100 yard dash. A fair playing field is all he is asking for.


How do HFT make the playing field unfair? Were HFTs killing it before "HFT" became "the thing"? It seems to me that HFTs became stronger, faster, more agile because they kept investing in technology while other players rested on their laurels. In what way is IEX, a dark pool that hides order flow, leveling the playing field?



Cal said:


> I do think that most on here should probably read the book before posting, it is a good read, as are almost all of Michael Lewis' books.


Unfortunately the book is not free. I can't go and buy the book and read it based on some random recommendation. I enjoyed reading "Liar's Poker" and "The Big Short". I've watched many of Lewis' interviews where he promoted "Flash Boys", and I'm not impressed.


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## rebel_ins (Apr 6, 2009)

Rusty O'Toole said:


> For those who have not read the book.... here is an extract from Michael Lewis's book in the form of a New York Times article that explains the problem.
> 
> http://www.nytimes.com/2014/04/06/magazine/flash-boys-michael-lewis.html?hp&_r=2


None of the "adaptations" from his book, and none of his interviews, provide any empirical study or statistics to back up the claim that "markets are rigged". It is one thing to point out inefficiencies in the markets. To go from there to "systematic market rigging" is a big leap. Lewis is an extremely talented writer. But he is not an expert on financial markets, and he only covered one side of the debate in his book. I have yet to be convinced by his "explanations".


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## Cal (Jun 17, 2009)

rebel_ins said:


> How do HFT make the playing field unfair? Were HFTs killing it before "HFT" became "the thing"? It seems to me that HFTs became stronger, faster, more agile because they kept investing in technology while other players rested on their laurels. In what way is IEX, a dark pool that hides order flow, leveling the playing field?
> 
> 
> Unfortunately the book is not free. I can't go and buy the book and read it based on some random recommendation. I enjoyed reading "Liar's Poker" and "The Big Short". I've watched many of Lewis' interviews where he promoted "Flash Boys", and I'm not impressed.


I can't comment on the empirical evidence you mention as I do not know the origin.

It isn't his issue that the HFT are bigger, stronger or more agile. It is the proximity of their computer servers that he has the issue with. He has no issue with their technology at all in the book. I cannot comment on his interviews as I have not seen them all.

IEX merely delays all orders so that HFT's do not have time to act upon the knowledge that the proximity of their servers gives them with other exchanges.

The book could be free....if you went to Chapters to read it. :encouragement:


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## Rusty O'Toole (Feb 1, 2012)

For years Goldman Sachs prop trading desk showed a profit 29 days out of 30, or in some cases 30 days out of 30 and made $100,000,000 a month.

If you are not familiar with day trading, a record like that is not real. You do not make such consistent profits by ordinary day trading. You must have an edge, which usually means cheating. For the last 10 years or so it has meant "high speed trading" which takes in a lot of ground but is always aimed at getting ahead of other traders, and sniping a profit with no risk.

Goldman Sachs is just one prop trading desk of many. Those hundreds of millions per month did not come out of thin air. They came from the pockets of other investors and traders, the ones that did not have the right algorithms. 

That is the other thing, none of this is real trading by human beings. It is all sniping by computers. It only works if buyers and sellers are already in the market and the computer can jump in between. In other words it contributes nothing to liquidity. This is seen when anything happens to disturb the market, all the algos jump back at the same time and the market plunges hundreds of points in minutes.


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## Rusty O'Toole (Feb 1, 2012)

For the typical buy and hold investor this sniping may cost him a couple of bucks on a hundred shares that he plans on holding for 10 years, in other words it is nothing.

It is the traders who see their profits diminished or eliminated. This in turn eliminates the traders. The algos do not contribute liquidity, they disappear when the markets go out of balance. The result is more volatile markets and more "flash crashes" which did not exist before "program trading" or "high speed trading" reared its ugly head.


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## Spudd (Oct 11, 2011)

rebel_ins said:


> Unfortunately the book is not free. I can't go and buy the book and read it based on some random recommendation.


We have these amazing things in my town called "libraries".


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## Rusty O'Toole (Feb 1, 2012)

rebel_ins said:


> None of the "adaptations" from his book, and none of his interviews, provide any empirical study or statistics to back up the claim that "markets are rigged". It is one thing to point out inefficiencies in the markets. To go from there to "systematic market rigging" is a big leap. Lewis is an extremely talented writer. But he is not an expert on financial markets, and he only covered one side of the debate in his book. I have yet to be convinced by his "explanations".


The markets are not rigged. You can safely buy any stock, mutual fund, or ETF and the nice folks at the banks, brokerages and exchanges will take good care of your money.


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## NorthernRaven (Aug 4, 2010)

There's an interesting academic paper about using "frequent batch auctions" instead of continuous trading. It is actually broadly readable, and even wryly funny in an academic way - citing a paper "Einstein, 1905" and noting that special relativity as a consideration of stock trading is not necessarily a good state of affairs 

The general idea is that orders are batched together, and matched in an auction process at defined intervals, say every second or tenth of a second. In theory it could eliminate the informational advantage of speed, and leave any useful liquidity.


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## andrewf (Mar 1, 2010)

That seems like quite a workable idea.


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## Rusty O'Toole (Feb 1, 2012)

From Karl Denninger at The Market Ticker. Commenting on this article by Michael Maehle

http://www.spokanejournal.com/special-report/ignore-all-of-the-uproar-over-high-frequency-trading/

Oh boy, the stupid....

" Mr. Lewis caused a huge bunch of focus to be placed on his book when he stated on air that, “Wall Street is rigged.” That bothered me greatly as I was sure that such a phrase would be flying across the headlines—it was. I was also concerned that many investors would become all that more certain that they have been taken advantage of by this so-called rigged system—and some were."

That's because ordinary people are.

"My mission here is to help you to cut through the noise and help you better understand what this HFT is. In addition, I want to dispel any feelings you may have that you’re in a rigged scam when you invest. You’re not."

Michael continues on with the shibboleth about specialists on the exchange and how we traded in 1/8th (and then 1/16th) of the dollar. All true. I traded in those days. But he conveniently forgets a few facts along the way.

The Specialists, in exchange for the privilege of the spread, had an obligation to take the other side of your trade when nobody else wanted it. Today that so-called "obligation" doesn't exist. The result is events like the flash crash, where the bid just plain old-fashioned disappears. There are dozens of these on an average day in individual issues now, where before there were none. You may argue that this doesn't hurt you, but you'll have to find some evidence for that first, and there isn't any.

Speed makes human analysis impossible at a certain level. How do you wind up with stocks that trade at 1,000x nearly-non-existent earnings? With what justification do moves of 5, 10, 20, 30% in fractions of a second occur? Not to put too fine a point on it bubbles require gullible suckers who will line up and bid up asset prices on vapor. Or, if you prefer, price justifies price. Well, for a while anyway. The old chestnut about markets being a balancing act of greed and fear is true. Speed is the enemy of contemplation. So why is it that we're focused on speed rather than contemplation?

Reg-NMS mandates that all market participants have access to the National best bid and offer. HFT is nothing more than an end-run around this regulation which is supposed to have the force of law. Michael wishes to claim that HFT is some sort of "public good" that came out of Reg-NMS, which itself was put through to address the gaming of the markets during the 1990s, largely (but not exclusively) through SOES. But HFT is nothing more than an evasion of Reg-NMS in that "private" feeds that are faster than the consolidated feed are supposed to be barred by Reg-NMS -- yet without them HFT cannot turn a profit!

Finally, Michael tries to run this load of nonsense:

" The high-frequency traders do make money from investors, but they do so just by being on the right side of the trade. If an HFT firm simply fills every single investor order at the best price in the market, then over the course of a day, and certainly over the course of a year, it’ll make a decent profit."

Except that's not what they do.

By colocating machines and obtaining private feeds that are faster than the consolidated tape HFT violates the spirit and, I'd argue, the law when it comes to Reg-NMS. By issuing quotes, whether to buy or sell, that are intended not to execute but rather to dupe other traders (whether computers or humans) into exposing their intentions in the marketplace HFT violates The Securities and Exchange Act as well.

I have no quarrel with computers executing trades. But the clear intention of Reg-NMS, and that of regulations before and after it going all the way back to The Securities and Exchange Act is to promote a level playing field in the public markets.

That is, you may only put forward a bid or offer if you intend to have it execute. Further, you may only put forward such a bid or offer such that all participants in the market can hit said bid or offer, not just certain participants.

The current HFT paradigm makes a mockery of both of these founding requirements behind any fair, public market. It is not hard to fix these issues either, but Michael doesn't want to talk about that and neither do the rest of the HFT boosters, because as soon as you fix them the "business model" of HFT, which is inherently about finding ways to pick someone's pocket for a fraction of a cent on each transaction, disappears.

Simply put we could solve all of the HFT problems with a few very small changes, specifically:

Prohibit the cancellation of an order until either (1) 2 seconds have elapsed or (2) it has executed, whichever comes first. That is, you must expose your order to all market participants on this big blue ball called "Earth" no matter where they are and the reaction time of said participant along with the physics involved in the delay of reacting to your bid or offer must be respected. This is the premise of Reg-NMS and we should enforce it.

Prohibit the provision of any data feed that results in the delivery of information at a rate exceeding, or with a time delay of less, than the consolidated tape, with fines of the total amount of all bids and offers presented in advance for violators. That would make the penalty so severe that this sort of cheating will simply never happen. In short if you're going to mandate that everyone have equal access then enforce it.

Prohibit the provision of any bid or offer unless the party issuing same can clear, in total, all outstanding bids and offers attributed to them at any instant in time. Ordinary traders and investors have always been bound by this restriction. If the initial margin for a futures trade is $5,000 per contract and I have only $6,000 in cash in my account I cannot put up two bids to buy one contract each, as I can only clear one of the trades. There is no legal dodge available to allow me to do so either; The Securities and Exchange Act says that any order that I issue for any purpose other than executing said order (that is, where my intent is to move a price or represent an interest in a security is false) is illegal. It is therefore obvious that if I issue two bids but can only clear one I am by definition breaking the law because I am representing an interest in a security that I cannot actually purchase!

That's it. Do those three things and if HFT can survive in a world where the actual law is respected I have no problem with it.

The HFT people, of course, will have lots of problems with these three changes, because if we were to actually enforce both The Securities and Exchange Act along with Reg-NMS I argue that it is impossible for them to make money.

If Michael wishes to argue otherwise then let's enforce the law and find out who's right.


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