Tagged: speed

Acronym Techniques

The stock market is full of acronyms.

Last month, Chicago-based DRW bought Austin’s RGM. It’s a merger of fast giants – or ones who thought they might be giants (opaque musical reference) and once were, and might be again.

You see a lot of acronyms in the high-speed proprietary trading business. Getco became KCG, now Virtu.  HRT remains one of the biggest firms trading supersonically – Hudson River Trading.  TRC Markets is Tower Research. There’s GTS. IMC.  EWT is gone, absorbed by high-speed firm Virtu.

Vanished also is ATD, the pioneering electronic platform created by the founder of Interactive Brokers bought first by Citi and then by Citadel, another high-speed firm.  Mantara bought UNX.

If I missed any vital acronyms, apologies.

RGM embodied HFT – high frequency trading, another acronym. Robbie Robinette studied physics at the University of Texas. Richard Gorelick is a lawyer, and in today’s markets one of the letters of your trading acronym should be backed by jurisprudence.  It’s all about rules. Mark Melton wrote artificial intelligence software.

They were RGM. They built trading systems to react to real-time events. We estimate the peak was 2010. They were crushing it, perhaps making hundreds of millions.  By 2012 in the data we track they’d been passed by Quantlabs, HRT and other firms.

Donald R. Wilson in 1992 was a kid trading options in Chicago when he founded DRW. Today it’s a high-speed trader in futures across 40 global markets with 750 employees, real estate ventures, and a major lawsuit with the Commodities Futures Trading Commission that seeks to bar Wilson from the industry.  Oral arguments were heard in December and the parties await word. DRW confidence must be high. They’re a buyer.

What does it mean for you, investors and public companies? History teaches and so we return to it.

From the early 1990s when both Don Wilson and I were youngsters out of college (we’re the same age so what am I doing with my life?) until roughly 2005, software companies called “Electronic Communications Networks” pounded stock exchanges, taking perhaps half the trading business.

The exchanges cried foul, sued – and then bought and became the ECNs. Today’s stock market structure in large part reflects the pursuit of speed and price, which began then. The entire structure has become high speed, diminishing returns for the acronyms.

Exchange are still paying close to $3 billion in annual trading rebates, incentives to bring orders to markets. Yet the amount earned by high-speed firms has imploded from over $7 billion by estimates in 2009 to less than $1 billion today.

Where are dollars going? Opportunity has shrunk as everyone has gotten faster. Exchanges and brokers that are still the heart of the market ecosystem have again adapted as they did before, becoming the acronyms that ae disappearing.  They are Speed.

Exchanges are selling speed via colocation services, and the data that speed needs. And big brokers with customers have learned to apply high-speed trading methods – let’s call them acronym techniques – to offload risk and exposure when they’re principals for customer orders.

There’s nothing illegal about it. Brokers are free to transfer risk while working orders. But now they can make money not via commissions but in offsetting risk with speed.

And speed is the opposite of the way great things are created.  Your company’s success is no short-term event.  The Neuschwanstein Castle in Bavaria (which we will visit on our cycling trip in the Bavarian Alps later this month) took 23 years to complete.

Your house. Your career.  Your investment portfolio. Your reputation. Your relationships.  Your expertise. Your craft.  What of these happened in fractions of seconds? Technology should improve outcomes but more speed isn’t always better.

Acronyms of high-speed trading have slipped yes, but remain mighty – 39% of US stock market volume the past five days. Fifteen are still pounding pulp out of prices.

But increasingly investors are adopting speed strategies driven by quick directional shifts. We are exchanging patience and time for instant gratification.

With that comes risk. As the acronyms wane in ranks the chance of a sudden shock to equity prices increases, because prices in the market depend on short horizons.

And your stock is an acronym.

Light Speed

Alert reader Raj Mehan at Steelcase forwarded a piece from the Wall Street Journal about traders now aiming with machines to execute stock-market transactions near light-speed.

Why the rush?  Companies take flak for “short-termism” that’s a quarter long and yet regulators and traders and academics extol the virtues of fast trading, claiming it makes markets liquid and efficient.

Just this week I was speaking with a CFO for a public company who yawned at the idea he should care about what priced his stock. “It’s interesting but what difference does it make?”  I’m paraphrasing a longer exchange. It’s a vital point of contention, right?

We’ll come to that in a moment. Watching the Olympics this week – exhilarating as ever – the race for speed in the water is stupefying.  Seeing Katie Ledecky crush the field by five seconds for a gold metal gives you goose bumps no matter your country. And the objective of swimming-speed is winning.

It is for traders too. In the WSJ article by Vera Sprothen, folks from high-speed trader DRW Holdings LLC (stands for Donald R Wilson) said competition in financial markets is accelerating the race. A nanosecond is a billionth of a second. Routers can send and receive stock-exchange data in 85 nanoseconds, which is how much time elapses when a bullet fired from a gun travels a half-inch.

Imagine. You fire at a shooting-range target and before the bullet gets there somebody trades your stock several hundred times.

If I’m making a big-ticket purchase the last thing I want is – snap! – to do it faster. Many of you are investor-relations professionals. Do some investors study your business for a year or two before deciding to buy your shares? When I was an IRO, that was common.

Weighty decisions are not made for light speed.  Therefore, traders are not making weighty decisions. Committing capital over time is a risky gambit. Capital deployed the amount of time needed for a bullet to travel a few feet isn’t so fraught.

It’s also not investment. Understand: The stock market in the USA and ever more around the world too is one in which the first trade to arrive prices the stock for everyone. Many stock-trades are paired with other things such as options or currencies or commodities.  Price one superfast, and race over faster than a speeding bullet to something else, and you can make money by taking advantage of price-differences. That is by definition arbitrage.

The efficiency of markets is best assessed by determining how much arbitrage occurs. There’s a lot of arbitrage in booking a hotel room on line. There’s no arbitrage in buying a cup of coffee at Starbucks (unless somebody at the Univ of Chicago wants to study that question and prove me wrong).

In the stock market, almost half of all volume is arbitrage. It may be the most colossally inefficient capital market ever created by human beings. Back up 20 years and it wasn’t. Just 15% of trading could be attributed to arbitrage, and 85% to investment.  Speed and price-differences now consume it.

Which brings us back to our apathetic CFO. If you don’t care about the market for the backbone of your balance sheet enough to understand it, you should be a private company where there’s less arbitrage.

For IR pros in the 21st century, it’s a huge opportunity. Not only is there confidence in knowing how the market works, but somewhere today there’s an IRO who will, having learned, help change the market tomorrow.

Problems are solved after we first understand them.  Most prices for stocks should not be set at the speed of light. Yet that’s happening.