TRADING BOTS ARE SMASHING DOWN THE WALLS OF WALL STREET
High Frequency Trading is Wall Street’s latest attempt to keep regular people out of financial markets. Now, there’s a solution that’s affordable to everybody.
The Wall of Wall Street
Wall Street brokers have spent years building a huge brick wall to keep everyday wage earners out of their racket. They repeatedly point at 1929 as the year that showed what happens when too many people have access to financial markets. The wall also serves to limit financial markets to people who are rich enough to invest in large portfolios and those who make huge commissions off their trades.
The result has not been long in coming, for the wall also kept out the regulators. In 2008 alone, we saw the collapse of Merrill Lynch and Lehman Brothers; two years later – charges of fraud against Goldman Sachs; and since – a total loss of trust in the investment banking industry.
Today’s smart investor wants to control his OWN assets, put his OWN money to work for him and not have to look over a bank clerk’s shoulder to make sure he’s investing for HIM and not for himSELF.
Unfortunately, the markets now are so advanced that most trading is being done by high-frequency trading computers that open and close millions of trades in a second, scan the global markets non-stop and cost more than your average small city. The retail trader has little chance against these behemoths, and the market still stands to be manipulated by the institutions.
How did this happen?
The Golem Arises
High-frequency trading entered the financial scene in the late 1990s, with the approval of computerized exchanges by the SEC in the US. By then, NYSE’s electronic order routing & executing system had been in use for more than 2 decades, and it was suddenly possible to invest in the momentary lapse between the price of a stock future and the true value of its underlying asset.
Once the exchanges were computerized, it didn’t take long for institutional investors to discover ways of feeding their computers with data directly ‘from the wire’. Now, investment firms could even see pending orders waiting to be fulfilled split seconds before their execution and capitalize on them – a form of arbitrage.
Clearly, the price fluctuations here are tiny, and massive amounts of cash are required to profit from them. Still, the volume of high-frequency trades soared 165% in the space of 5 years. And to demonstrate how dividing the HFT trade is, in 2009 it accounted for 73% of all equity orders in the US. This occurred while only 2% of 20,000 investment firms actually had the resources (equity and access to supercomputers) to participate in the party.
In this sector, speed counts. Computer connections are measured in milli- and microseconds; and the firm that has the fastest computer and the highest amount to invest wins the trade. Athena Capital in 2014, for example, was fined 1 million dollars for investing $40 million to manipulate stocks.
One would think that such small and split-second investments shouldn’t be harmful to the system; but in 2010, a 36-minute ‘flash-crash’ showed just how harmful HFT could be when the system goes wrong: a simple loop in the system of a large mutual fund caused a collapse in major US stock indexes, the DOW losing nearly 1000 points before recouping 600. Five years later, the US Department of Justice brought charges of fraud and market manipulation against Navinder Singh Sarao.
The Little Girl with the Amulet
Before continuing, let’s take a moment to get back to basics: the whole ideal of an efficient market means that an asset’s price reflects all AVAILABLE information. The more you limit the number of participants, the more influence can be held by insider traders and other disruptive forces. Obviously, the SMALLER their trading volume is compared to the GENERAL masses, the less they can influence prices. Now, when you’re placing many trades in a second, this becomes critical, and the only hope for markets to be efficient in an age of high-frequency trading is in everyone having access.
Luckily, the online trading sector has been developing tools that may eventually level the playing field. Trading bots have been gaining an evil reputation since their inception due to the large number of fraudulent services and their use as a means of attracting customers to the more shadier of brokerages. However, this is an industry in its early days, and one should not dismiss bots out-of-hand.
The automated indicators and expert advisors found on the more advanced trading platforms are programmed to scour the range of offered assets in fractions of a second; and some will even place market or pending orders with SL/TP orders adapted to an investor’s risk preference. Clearly, these are a very distant cousin to the algorithms used by high-frequency traders; but related they are. And clearly, there is no comparison between the contract sizes of institutional investors investing millions and retail individuals investing their spare change. However, one bot used concurrently by many people could foreseeably become a viable counterbalance to the sharks of Wall Street.
Now, I am certainly not advising anyone to subscribe to a service offering the latest truly wonderful, know-all trading bot, but we should certainly not stifle the developing technology with the well-deserved discrimination that belongs to the scammers. Instead, we should probably wait for the little girl to grow up, and nourish her along the way without letting the mud at her feet reflect upon her promise.