High-speed trading comes under heightened scrutiny
At a time when public trust in Wall Street already is at a low, new allegations about high-speed stock trading threaten to further erode confidence in the financial markets.
The furor centers on accusations that professional traders armed with ultra-fast computers have rigged the stock market. These firms engage in what critics say amounts to insider trading, using super-charged systems to decipher trading patterns.
Criticism of high-frequency trading has long swirled in financial circles, and regulators are looking into the practice. The FBI confirmed this week that it is in the middle of a months-long investigation, and New York Attorney General Eric Schneiderman has opened a probe into whether stock exchanges and alternative venues give such traders improper advantages.
The issue has burst into public view in a new book by Michael Lewis, a noted chronicler of Wall Street whose best-sellers include Liars Poker and The Blind Side. Lewis and his book, Flash Boys, were featured in a 60 Minutes segment Sunday.
The furor has consumed Wall Street this week.
Michael Lewis basically lit a torch and threw it in a crowded theater, said Larry Tabb, a trading expert at Tabb Group in Westborough, Mass. Hes basically calling the U.S. equity markets rigged. This is one of the cornerstones of the system that the world economy is built upon. Yeah, its going to get a lot of people really upset.
Many analysts agree with the basic gist of Lewis argument: that savvy traders exploit loopholes that need to be closed. But they dispute the notion that the market has been fundamentally corrupted.
Rigged implies that there is someone out there or a collection of entities that controls the market, and thats not the case, said Benn Steil, an expert on stock trading at the Council on Foreign Relations.
The primary risk to small investors is not that they could be taken advantage of by speedy traders, Steil said. The bigger danger is that individuals might forfeit long-term gains by shying away from the market.
A basic allegation in Lewis book is that high-speed traders routinely front-run other investors.
In its simplest form, front-running means a trader detects that an investor wants to buy a certain stock. The trader swoops in to buy it first, then quickly sells it to the investor at a slightly higher price.
High-speed traders defend their industry, saying they simply harness publicly available trading information and dont engage in front-running or insider trading.
Some experts say the debate may be rendered moot because the high-speed phenomenon is showing signs of slowing down. A combination of regulatory reforms, changed trading patterns by mutual funds and a placid stock market has eaten into profits of high-speed firms.
Still, the debate is unlikely to die down anytime soon.
This is the big issue right now, Steil said. Everybody is focused on it.