Flash Boys for the People
My defense of high-frequency trading in todays NYTimes is here.
Had I another couple of hundred words, I’d have elaborated on the fact that HFT can be viewed as the revenge of the sell side. After years of being condescended to by the buy side, regulated and having their margins squeezed, the sell side has found revenue in HFT. It’s still not an easy way to make a lot of money – it’s highly competitive and takes a lot of investment in infrastructure – but given the beating the sell side has taken in recent years, it’s not surprising they’ve been happy to make money of HFT.
I’d also not that IEX, the platform described by Lewis in Flash Boys is not the first to try to offer a cleaner platform for institutional traders. Pipeline Trading Systems, which existed from 2004-2012, offered an exchange for large investors to trade away from the high-frequency traders. It leased software from Fidelity and declared itself “predator proof.” Unfortunately, Pipeline could not drum up enough natural buyers and sellers on its exchange, and was found by the SEC to be illegally funneling them in from a trading affiliate.
Liquidnet is another platform which has struggled to become more than a marginal player. The biggest traders have been reluctant to antagonize the investment banks by using alternative exchanges. IEX’s solution of delaying trades so they hit the exchanges simultaneously may prove to be the solution to the market inefficiency the block traders have discerned. Time will tell if they’re really onto something.
And finally, investors I’ve spoken too seem very mixed on this. Some say, if you’re sweating fractions lost to HFT, you’re not much of an investor. Others that’s it’s a real and considerable cost on their trading. Others say that the real rigging of the system is in favor of short-term traders, who are rewarded with low commissions for trading a lot, and long-term traders who pay higher commissions because they trade less often. Yet for the health of the economy, who’d you rather have in business?
My friend Mungo Wilson at the Said Business School pointed me to this wonderful piece by Brad Barber and Terrance Odean from the Journal of Finance, April 2000: Trading is Hazardous to your Wealth. If you find HFT such a nuisance, perhaps easiest to avoid it altogether as well all the other frictional costs of trading, by trading less.