How High Frequency Traders Ripped Us Off:
Michael Lewis Exposes Wall Street – Again!
By Shlomo Maital
I should always read a book before I blog about it, and generally do. But permit me, just this once, an exception. Michael Lewis’ new book Flash Boys is just too important.
Lewis is an author, age 53, whose books (Liar’s Poker, The New New Thing, Moneyball: The Art of Winning an Unfair Game, The Blind) expose Wall Street. He worked on Wall St. in the 1980’s, made a big salary, thought the salary was unjustified, quit, wrote a book about it exposing Wall St.’s fraudulence in the 1980s, — and it became a best-seller, as all the MBA students bought the book not to understand the fraud but to learn how to make big bucks fraudulently.
Flash Boys exposes how ‘high frequency trading’ rips us off. Here is how Michael Baram explains it, and links it to ‘dark pools’ [off-stock-exchange markets] (in the International Business Times website):
“High-frequency trading is the controversial practice in which firms use sophisticated computer algorithms to trade securities in milliseconds. On Wall Street, information is the coin of the realm and anyone who has an inside track on a large fund’s trades can exploit that knowledge — a pension fund trying to buy 100,000 shares of Microsoft at a certain price range may prefer to hide that order inside the dark pool instead of trading it on a public exchange such as the Nasdaq. But by paying for a special connection to the dark pool, high-frequency traders are able to find that pension fund’s order, go over to the Nasdaq and buy it at a lower price, and then quickly sell it to the buyer in the dark pool at a higher price.”
For years, I have known that foreign exchange traders do this practice, also known as front-running. A big client asks to buy 100 m. yen. The trader buys the yen for his own ‘nostrum’ account at a cheap price, the price of yen (in terms of dollars) rises, he buys the yen for the client at a higher price, then at once quickly sells the yen he bought and ‘flips’ a quick profit. If you do this daily, hourly, soon you make billions, for your bank and for your bonus. It’s unethical, immoral, maybe illegal, but – who knows? And who can prove it? Nobody ever went to jail for front-running.
Now Michael Lewis and his quality research show us that high-frequency traders are doing the same thing. They use their inside information to make money at the expense of pension funds and the public. Dark pools account for 12-15 per cent of all stocks trade in the United States.
As Lewis writes: “The hidden passages and trapdoors that riddled the exchanges enabled a handful of players to exploit everyone else… [Like casinos] You invite a few to start Texas Hold ‘Em by telling them that the deck doesn’t have any jacks or queens and that they won’t tell that info to other people joining the game … By 2013, the world’s financial markets were designed to maximize the number of collisions between ordinary investors and high-frequency traders – at the expense of ordinary investors.”
There seems to be no end to the Wall Street perfidy. The regulators are always a dozen steps behind. If and when the high frequency ‘dark pool’ loophole is closed, by then there will be a new and profitable one. Lewis cites a Royal Bank of Canada employee, Bradley Katsuyama, who fought back by trying to create an honest level-playing-field stock exchange.
The big central stock exchanges, like NYSE, have broken up into many smaller electronic exchanges. This has made it far easier to hide unethical practices that rip us off. Lewis has exposed them. But as we speak, count on it, they’re working on new and better ways to steal. Because, it’s all about money, and for those involved, doing the right thing is for dumb suckers, like you and me.