Tagged: SEC

Boy, when it rains, it pours. Three years ago when we began grousing about how Reg NMS was turning equity trading into a foot race, people thought we’d been hitting the Hookah. Now it’s on 60 Minutes.

Along with Larry Leibowitz from the NYSE and Minoj Narang of Tradeworx, 60 Minutes interviewed Joe Saluzzi from Themis Trading (read their white papers about trading). Joe was on my panel about modern trading at NIRI National in 2009. Few people are better at explaining the peccadilloes of a market structure based on price and speed.

Here again is the problem, simplified to its most basic elements: Trades must meet at the best bid or offer. The participants able to get to the price fastest will always set the price. And because the exchanges and regulators alike have embraced a “maker/taker” model in place of the old auction and automated quotation systems, transient money is always setting your price. Yes, it requires the presence of something else underneath it, as the Flash Crash illustrated. But the structure, not the behavior, is the problem. The behavior is precisely what one would expect from the existing structure. (more…)

Give yourself a break! Okay, we’ll give you one. We’re cycling from Prague to Vienna, a wedding anniversary trip, and won’t be within writing distance next week. The Map will thus be on hiatus, back Sept 21.

We’ve had questions about the “quote stuffing,” article last week in the Wall Street Journal. In essence, gobs of immediate-or-cancel (IOC) trades gumming up markets might have contributed to the Flash Crash. It’s equity whack-a-mole, where trades pop up to draw fire, then disappear.

No form of equity order randomly appears in the markets, crafted by conniving traders. All must be submitted via rule filing to the SEC, and approved. So the orders being questioned by regulators now were earlier approved by the same regulators.

IOCs are not the choice of committed, rational money. These orders suit intermediaries, whose aggressive bids and offers keep spreads tight and markets liquid – which is what regulators and market centers seek. But there is an unintended consequence to managing, manipulating, and incentivizing behaviors – which is what crafting orders that fit certain participants best does. The markets may not do with the incentives what was hoped and expected. And notice, too, that issuers, whose shares are the blood of markets, rendered no opinion on IOCs. We should.

Remember, our market system is a “maker/taker” model that relies on manufactured volume. Buying and selling is incentivized – induced with payments and types of orders that encourage middle men with no interest in owning shares to be aggressive. Why? People fighting to outbid each other should mean low spreads and competitive prices for consumers, regulators reason.

The problem? Consumers aren’t setting prices. The forces being incentivized are. We have no real idea what value buyers and sellers place on stocks, because the entire model is unwittingly obfuscating prices. Every time someone has an interest in buying shares, a fast intermediary may run ahead and re-price the market. This is couched as “price improvement.”

So, it should be no surprise that there were clouds of IOCs around the Flash Crash. This is exactly how the system is designed to function. It’s sort of like looking at the vortex in your bath tub after you pull the plug and wondering if the vortex is responsible for water leaving, or vice versa.

Think about it. Rather than the causal link between IOCs and the Flash Crash, we might ask instead why these IOCs drew out zero, zilch, nada “natural” liquidity. That’s market lingo for “real buyers and sellers.”

A mad scramble by intermediary systems failed to induce buying and selling. So those systems pulled out. So the answer to our question is that real buyers and sellers were uncertain of prices and unwilling to commit. Real money did not, and still does not, know the price or value of stocks. That should be a huge red flag fluttering in the market breeze like Old Glory on Labor Day.

Which brings us to trading today, the first after Labor Day. Why was the market down? Because the dollar strengthened. The DXY rose $0.85, or 1%, the reverse of the market. Last week it dropped sharply and markets climbed 250 points in one day.

This is precisely the same thing that is wrong with trading markets. Governments around the globe are manipulating, managing and incentivizing behaviors. The result is not a recuperated economy but instead that manipulation becomes an end unto itself. I hope we stop before we’ve been incentivized right back down to warring city-states.

Speaking of warring city-states, it’s that season when the sellside tries to out-schedule each other with industry conferences. Do you know how host firms of conferences trade your stock? What’s their order flow like? What do they do around expirations? Do they list the derivatives trader at the top (don’t laugh, many do) of research notes?

The nature of a firm’s order flow can tell you about the money consuming your liquidity (on those occasions when it’s real). If you need more growth-style money but don’t have lots of market cap, you might attend conferences hosted by major structured products purveyors.

Committed buy-and-hold money? Focus on firms differentiating with soft-dollar programs built around research, rather than ones with multi-asset-class trading capabilities. Sometimes small conferences are better. One committed investor can change the speculative and risk-management behaviors in your trading – because someone runs ahead and re-prices.

These ideas must now be in the modern IRO’s arsenal. And with that, have a blast out there on the road. We will – spandex, spokes, sunglasses and all!

There Are Spreads and There Are Spreads

Why do many stock prices move intraday by 3-5% or more when price spreads are in pennies?

Before we answer, we enjoyed New Orleans last week, despite humidity that had us struggling to distinguish the surrounding atmosphere from Lake Pontchartrain.

The NIRI Southwest Regional Conference concluded with brisk canvassing of key issues, wrapping on “would you choose an IR career again?” (Unanimous yes from panelists)

Bourbon Street hopped as usual, tourists with beer in cups labeled “giant donkey,” in so many words. We heard from the bartender at Pierre Maspero’s that (more…)

Risk and Naked Access

Hope you enjoyed MLK Weekend! We were on bikes for the first time in Twenty Ten as temperatures tickled the high 50s Saturday and Sunday on Colorado’s Front Range.

TRAVEL UPDATE: I’m in Kansas City today joining Joe Ratterman, CEO of BATS, and Jeff Albright, head of equity trading at Waddell & Reed, for a NIRI panel on how stocks trade. Thursday Jan 21, I’ll be at the NYC NIRI meeting with Professor Bob Schwartz of Baruch College, Jim Ross from NYSE Euronext, and Donald Bollerman of Nasdaq OMX to “demystify the markets.” See Events & Articles at modernir.com for more, and join us. (more…)