Hard Working Traditional Values With A Dash of Fun

Hard Working Traditional Values With A Dash of Fun

Thursday, July 10, 2014

The Real Wolves of Wall Street

Best selling author Michael Lewis is probably best known for The Blind Side, which was made into a very popular movie staring Sandra Bullock. His latest book, Flash Boys: A Wall Street Revolt, raises a number of issues that should be of concern to conservatives.

Flash Boys tells the story of the High Frequency Trading (HFT) industry, a group of companies that have figured out how to make billions of dollars with hardly any risk.

If you are not very familiar with how Wall Street works, you may picture a bunch of guys in loud suits yelling to each other on the floor of the stock exchange buying and selling stocks. That was Wall Street once upon a time, but for the past decade all stock exchange trading has been done computer to computer with no human interaction necessary. Taking advantage of the latest technologies has lowered the cost of trading stocks and bonds, but smart people figured out how to prevent buyers and sellers from enjoying all of these savings. It is all perfectly legal, but ethically questionable.

Here is what the HFT firms figured out. Even though computer to computer orders travel at a fraction of a second, not all orders travel at the same speed. Some orders are millionths of a second faster than other orders. HFTs focused on being speed freaks. They would pay big fees to the exchanges and investment banks to get to the front of the line with the quickest access to buying order data. They would use this knowledge to step between sales, buying up stocks after they knew an order was coming in, causing a slight bump in the price, and turning around and selling it at a small guaranteed profit. The earnings could be as lows as a penny a share, but it added up to billions per year, all at no risk.

The exchanges and investment banks knew this was going on and even though it ended up costing their customers who were buying stocks a higher cost, they did nothing to address this because they were charging big fees to the HFTs to give them the quickest access to order data.

The federal regulators were no better. They knew it was going on, but working for HFTs after they spent a few years in government 'service' was a ticket to a high paying job.

Enter the hero of Lewis's book, Brad Katsuyama. While working for Royal Bank of Canada, Katsuyama figured out what the HFTs were up too. The easy thing to do would have been to set up an HFT of his own and making millions. Instead, Katsuyama felt that the HFTs were taking money from his customers and providing no value for their action. He started his own stock exchange that eliminated the tools HFTs used to rip off customers buying stocks. Lewis points out that HFTs are not as active as they once were, now that Katsuyama has taken away their bag of tricks.

Lewis writes that is a great shame that these HFTs, which are often run by brilliant scientists, have resulted in billions being siphoned off the market with no added value. If only these 'thieves' would use their talents for productive activities that benefit the economy.

One of Mahatma Gandhi's Seven Deadly Sins is Commerce without Morality. Lewis's book about the HFTs shows that there are many people who have no problems with unethical behavior and have embraced this deadly sin. The HFTs effectively added their thumbs to the scale of a sale and took a piece of the profit without anyone knowing they were doing this.

Human nature being what it is, there will always be people of poor character who look for a way to rip off other people. What is sad that such action goes unreported by publicly trading companies acting against the best interest of their customers and government regulators who are paid to act as the referee to ensure a fair and honest market. Lewis more than once compares this set up to a casino culture where everyone is in on overcharging the customer in a way that they don't notice.

While liberals may be inclined to pass laws to fix this, Lewis points out that the shady characters always find loopholes and sometimes they are put there on purpose by their elected government cronies.

The conservative solution is to promote strong ethics and a free market and free press where the light of truth can shine on the actions of bad actors.

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