May 10, 2010--High-Frequency [Insider] Trading
If anyone is wondering why so-called retail investors are avoiding the stock market, all one needs to do is contemplate what is thus far known about last week's Dow Jones bungee jump. That 30 minutes where the average plunged 1,000 points and then almost as quickly bounced back about 700.
I say "thus far known" since in spite of all regulator, market officials, and government efforts, no one knows for sure what transpired.
That in itself is enough to scare away average investors--who wants to put any money down in a casino where not only are the odds stacked against you but also where things can run seemingly amok.
And I use "seemingly" advisedly" since the stock market of today in no way resembles the market of yesterday.
If, like me, you thought the New York Stock Exchange either operated as depicted in the movies--with traders racing wildly around the floor of the exchange wearing funky jackets and huge coded badges, frantically waving small slips of paper in the air as they chase after sellers from whom they want to buy 1,000 shares of AT&T--or if you thought that trading floor was where all the investments action is, think again.
Yes, I of course knew that computerization has changed this picture, but until last Thursday I had no idea that the majority of trading in stocks no longer occurs at the NYSE nor had I heard about high-frequency trading where most of the action now takes place.
And, it will likely turn out, that the dizzy gyrations that we witnessed last week emanated not just from human or technological error at one of these new virtual sites but also, since these electronic trading systems exist largely unregulated and under the radar, in spite of their size and the volume of trades that they manage, they are susceptible to nouveau forms of insider trading.
Again, in the past in order to pull off stock trades based on insider information (knowing in advance of the public that a particular company was about to be taken over, bought by another, and that this would mean one stock would rise rapidly and the other drop precipitously), one needed to have that information in hand and then either call ones broker to execute the trade or do so on-line. This took time and exposed you to potential scrutiny and prosecution since to trade this way is illegal. Just ask Martha Stewart.
These days about 65 percent of all trades occur via electronic exchanges that exist in parallel to but separate from the NYSE and much of the action occurs automatically. Especially at the high-frequency places where software is programmed to buy and sell stocks at pre-specified volumes when certain things occur--when an individual stock is available for a targeted price, when this average or that hits a particular level (the Dow, for example, dips below a certain "support level"), when there is a minute difference in the price of the same stock at a different exchange,
It is appearing that all of these things, plus human and/or machine error, was involved in what happened on Thursday.
According to an op-ed piece in the New York Times (linked below), something that goes on routinely at the high-frequency exchanges--where computers scan billions of bits of information in search of variations in the price of the same stock at the various exchanges, variations that exist for just a fraction of a second, and thus there are opportunities for traders since these differences can be taken advantage of by equally speedy automated transactions. If you can make a few pennies per share on huge trades of this kind it can add up to millions of dollars in profits. In addition to this arbitraging, playing the differences in buying and selling prices, in addition to this new version of business as usual, there are also opportunities to cheat.
For example, also all automated, if at one exchange you have an agreement to buy something at a particular price, with that "insider information, you go to other non-NYSE exchanges and buy up all available assets in that company at a better price from your perspective and then go back to the original investor and force him to see to you at the now "inferior price."
But, when a whole lot of this goes on it could contribute to the kind of meltdown we saw last week. And that too--the wild swings in the numbers--was also an opportunity for some (again via the new high-frequency exchanges) to make quick fortunes. When Proctor & Gamble, as one example, plunged $22 a share (37 percent of its value) it was a great time to buy up as much of it as your pre-programmed computer would allow.
This is admittedly a little exotic (with this exoticism too part of the lure and opportunity--impenetrableness itself to mere mortals represents opportunity); but if unfettered greed is what drives you, quite neat.
Some would call this the free market--let the buyer beware--others would call it a rigged casino.
I say "thus far known" since in spite of all regulator, market officials, and government efforts, no one knows for sure what transpired.
That in itself is enough to scare away average investors--who wants to put any money down in a casino where not only are the odds stacked against you but also where things can run seemingly amok.
And I use "seemingly" advisedly" since the stock market of today in no way resembles the market of yesterday.
If, like me, you thought the New York Stock Exchange either operated as depicted in the movies--with traders racing wildly around the floor of the exchange wearing funky jackets and huge coded badges, frantically waving small slips of paper in the air as they chase after sellers from whom they want to buy 1,000 shares of AT&T--or if you thought that trading floor was where all the investments action is, think again.
Yes, I of course knew that computerization has changed this picture, but until last Thursday I had no idea that the majority of trading in stocks no longer occurs at the NYSE nor had I heard about high-frequency trading where most of the action now takes place.
And, it will likely turn out, that the dizzy gyrations that we witnessed last week emanated not just from human or technological error at one of these new virtual sites but also, since these electronic trading systems exist largely unregulated and under the radar, in spite of their size and the volume of trades that they manage, they are susceptible to nouveau forms of insider trading.
Again, in the past in order to pull off stock trades based on insider information (knowing in advance of the public that a particular company was about to be taken over, bought by another, and that this would mean one stock would rise rapidly and the other drop precipitously), one needed to have that information in hand and then either call ones broker to execute the trade or do so on-line. This took time and exposed you to potential scrutiny and prosecution since to trade this way is illegal. Just ask Martha Stewart.
These days about 65 percent of all trades occur via electronic exchanges that exist in parallel to but separate from the NYSE and much of the action occurs automatically. Especially at the high-frequency places where software is programmed to buy and sell stocks at pre-specified volumes when certain things occur--when an individual stock is available for a targeted price, when this average or that hits a particular level (the Dow, for example, dips below a certain "support level"), when there is a minute difference in the price of the same stock at a different exchange,
It is appearing that all of these things, plus human and/or machine error, was involved in what happened on Thursday.
According to an op-ed piece in the New York Times (linked below), something that goes on routinely at the high-frequency exchanges--where computers scan billions of bits of information in search of variations in the price of the same stock at the various exchanges, variations that exist for just a fraction of a second, and thus there are opportunities for traders since these differences can be taken advantage of by equally speedy automated transactions. If you can make a few pennies per share on huge trades of this kind it can add up to millions of dollars in profits. In addition to this arbitraging, playing the differences in buying and selling prices, in addition to this new version of business as usual, there are also opportunities to cheat.
For example, also all automated, if at one exchange you have an agreement to buy something at a particular price, with that "insider information, you go to other non-NYSE exchanges and buy up all available assets in that company at a better price from your perspective and then go back to the original investor and force him to see to you at the now "inferior price."
But, when a whole lot of this goes on it could contribute to the kind of meltdown we saw last week. And that too--the wild swings in the numbers--was also an opportunity for some (again via the new high-frequency exchanges) to make quick fortunes. When Proctor & Gamble, as one example, plunged $22 a share (37 percent of its value) it was a great time to buy up as much of it as your pre-programmed computer would allow.
This is admittedly a little exotic (with this exoticism too part of the lure and opportunity--impenetrableness itself to mere mortals represents opportunity); but if unfettered greed is what drives you, quite neat.
Some would call this the free market--let the buyer beware--others would call it a rigged casino.
posted by Steven Zwerling at
5:14 AM
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