Flash Boys and Cows

What do micro-profits from saved micro-seconds have to do with cows?

Everything.

Michael Lewis, author of Liar’s Poker, Moneyball and other spectacular successes, has just released his new book “Flash Boys: A Wall Street Revolt.” In response to a question about the stock market on 60 Minutes, Lewis said, “it’s rigged.”

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That got attention and the publicity continued with the electronic front running of an article to be published on Sunday, April 6 in The New York Times Magazine. Spinners for both sides of the high-frequency-trading question faced off in a battle for huge paydays.

Here is the point of the book: high-frequency traders are able to identify your desire to buy shares in Microsoft then buy them in front of you and sell them back to you at a higher price. The speed advantage that the faster traders have is milliseconds but it’s enough for them to identify what you’re going do and do it before you do. At your expense.

Here is what that means. “In his seven years as a trader, he had always been able to look at the screens on his desk and see the stock market. Now the market as it appeared on his screens was an illusion.”

Shall we move on to the cows?

In the Middle Ages, it was customary for a villager to graze a cow on common land to support his family. This worked fine until the first villager decided to graze two cows on the commons and have some extra milk to sell.

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That made perfect sense until the other villagers copied the idea and all the grass got eaten. Unsurprisingly, the cows then died followed shortly by their owners.

Self-interested behavior (more cows or less milliseconds) – however rational and legal it might be — can sometimes cause the demise of an important common resource, like grass or, in this case, trust in the fairness of the markets.

Trust in the markets is an especially important resource because planning for old age has been delegated to the least skilled: individuals themselves.

What will happen when they stop trusting the only solution available to them?

Whatever your answer, it won’t be happening to the Flash Boys.

6 Responses to “Flash Boys and Cows”

Peter Pell, April 03, 2014 at 11:32 am said:

“What will happen when they stop trusting the only solution available to them?” They’ll buy annuities, art, gold, non-public company interests, and real estate, I suppose.

I do not think this will happen. I think the FBI investigation and the book together are going to spark new regulations on flash trading.

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Haven Pell, April 03, 2014 at 5:22 pm said:

another suggestion is to impose a charge on cancelled orders.

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Jonathan, April 05, 2014 at 2:26 pm said:

Keep up this clear thinking with conversion to easily digestible conclusions and you’ll be giving John Stossel a run – although two of you would be even better…

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Haven Pell, April 07, 2014 at 1:14 pm said:

Thanks Jonathan. Your comment is as welcomed as it is undeserved.

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Ron Bogdasarian, April 07, 2014 at 12:43 pm said:

I is unclear to me how much difference, if any, Flash Trading makes for the long term investor. Some argue that very short term traders help create market liquidity, which is a good thing.

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Haven, April 07, 2014 at 1:11 pm said:

Ron, first I am so glad to see your name pop up. I hope you are enjoying it. Second, thank you for your comment. The first one needs my okay, but after that you appear automatically.

Now to the substance of what you said. I went to see Michael speak on Friday and one of the points he made emphatically was that anyone discussing either liquidity or price transparency was a liar.

Interestingly, Michael portrays himself as a story teller rather than an expert. “I know what’s in my book.”

I am going to follow his lead and say the same. “I know what I heard him say.”

I will have another post this week on the speech itself.

Again, many thanks.

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