Exactly right. The bight eyed smart kids from Silicon Valley will now be running a million scams predicated on being the "The Facebook of [whatever]." And a few will make billions, producing nothing.
“producing nothing” essentially gathering information about “clients’ behavior tendencies” in this environment and then selling it in a different package. Sure does sound fb-like to me.
It would sure be more fb-like if they were using data on customers to market to customers -- say by running a high tech penny stock boiler room, pushing bullshit stocks on pie-eyed adolescents. But I'm not getting that from the article -- just that trading behavior is being used by hedge funds who then make their own trades. Or something like that.
Whenever a young kid on my portfolio team (I worked on Wall Street for years) would say to me, "this is kind of like gambling" I'd always reply, "No, IS gambling, and the sooner you understand that the better you will be at this."
The insane urge to get rich overnight, without having to actually work for it, has ruined many a man over the centuries. Market speculation is America's favorite past time.
From the article: -- “It’s been famously said, ‘Never confuse a bull market with brains,’” he says, noting the S&P 500 is up nearly 64% since lows on March 23, right around the time the Robinhood’s numbers began zooming skyward."
Robinhood is just riding a wave of cheap credit, greed and stupidity. They are not the cause of the massive asset inflation this year.
On March 13, the Federal Reserve announced that it was slashing borrowing rates (for the Big Banks, not for you) to zero again, and resuming "Quantitative Easing," its gargantuan asset purchase program (of securities from banks at inflated prices, not from you.)
«The insane urge to get rich overnight, without having to actually work for it, has ruined many a man over the centuries. Market speculation is America's favorite past time.»
From JK Galbraith, “The Great Crash 1929”:
page 32: “One thing in the twenties should have been visible even to Coolidge. It concerned the American people of whose character he had spoken so well. Along with the sterling qualities he praised, they were also displaying an inordinate desire to get rich quickly with a minimum of physical effort.”
page 195: “The fact was that American enterprise in the twenties had opened its hospitable arms to an exceptional number of promoters, grafters, swindlers, impostors and frauds. This, in the long history of such activities, was a kind of flood tide of corporate larceny.”
page 25: “Just as Republican orators for a generation after Appomattox made use of the bloody shirt, so for a generation Democrats have been warning that to elect Republicans is to invite another disaster like that of 1929. The defeat of the Democratic candidate in 1952 was widely attributed to the unfortunate appearance at the polls of too many youths who knew only by hearsay of the horrors of those days. It would be good to know whether, indeed, we shall some day have another 1929.”
More than you think; "The Great Crash 1929" was written in 1954...
And the title of its chapter 4 is "In Goldman Sachs we trust", and is entirely devoted to the activities of the vampire squid in the 1920s.
If you haven't read that book yet you might really enjoy it (it is also written exceptionally well and wittily), it is uncanny how well it describes how things work, only the details have changed, and not even that much.
Also the history of Wall Street does not rhyme accidentally, the lobbies and vested interests and even most of the tricks are the same.
Good God Almighty. This application is appealing to the very same cohort that believes that taking out $75,000 to $100,000 in student loans to obtain a degree in gender studies is a good deal.
Doesn't matter... She's worse than Bill Clinton -feinting left, swinging right.
She talks a good one, but most of her money comes from Silicon Valley. Hellfire, SHE is a product of Silicon Valley money's desire to put a kind face on their authoritarian bamboozle.
I can't tell you how interesting I found this. And that's not hidden whining about topic choice because, these days, frankly, I'm more interested in criticism of the media and "woke" than I am financial shenanigans. However, this pushed all my buttons.
I'd always wondered how Schwab was able to cut their commissions to $0. I remember paying them $49.95 to buy or sell 100 shares in 1986 -- and it was a bargain. Put and call options were "cheap" at only $29.95 each. Now I know how.
I'm a capitalist through and through. But I oppose HFT and all it entails. To the point where I would support a fee on each trade. I won't notice a penny when I buy or sell 100 shares, but the skimmers will.
I loved how you put in quotes "add liquidity" because that's their go-to response. But are they talking about lessening the spread, or are they talking about liquidity during a crash? I would say real retail investors don't care much about the former, and the latter seems non-existent when we have the big down days.
Significant commissions and a tiny fee for each trade are, in my mind, GOOD things. They discourage short-term trading and encourage serious investment. But, hey, look, I was young once. I fell in love with options trading. Young people dream big, and options allow that. And even if you lose money, you are gaining knowledge. But I think the lessons are better when you are paying $30 a pop.
The amounts of money paid by Citadel, Virtu, and Wolverine were staggering to me. You know, a simple way to explain my big-picture complaint is with a poker analogy. If there is no rake, the players take home all the money, may the best man win. But if there is a rake, every player either loses or wins less.
Like I said, I'm a capitalist who loves investing. But I'll never understand why so many who share my views are so happy to tolerate these "free money" schemes. It's not capitalism, it's grift on a grand scale. Even if the skimmers and schemers insist it "adds liquidity." I'd rather pay a commission and keep everything in the light of day.
It isn't, though. The idea that Robinhood customers would be better off if Robinhood sent their orders directly to the exchanges is just demonstrably untrue. It costs 30 mils to remove liquidity from an exchange and you get a 20 mil rebate for providing liquidity on an exchange. Retail broker orders are largely marketable (liquidity removing) orders. Sweet, non-toxic marketable order flow sent to an exchange will cross the spread, execute at the NBBO and be charged a liquidity removing fee for the privilege. In a small percentage of cases it might be price improved by executing against a non-displayed mid-point order resting on the exchange. If the retail broker sends the order to a market maker, the market maker will execute it at a price better than the exchange price (higher average price improvement), not charge a liquidity removing fee and even pay the retail broker PFOF which, through the magic of competition, causes the broker to lower or eliminate commissions. This is really not debatable. I mean, we can debate it here, of course, but if you know what you are talking about, there is no serious question on this point.
The only people who are best served by sending marketable orders to the exchange are people with no other choice. The reason why institutions remove liquidity from exchanges is because their order flow is toxic, predictive of future price changes and adversely selects the market maker. Accordingly, the market makers not only do not price improve or pay the institution for the order flow, they won't even give it guaranteed fills. Instead, they will consent to receiving the institutions' orders on an IOC basis and execute it when it suits them and let the order cancel when it doesn't. Take a look at Interactive Brokers' 606. What's different about their numbers from Schwab and Robinhood's? Yeah, that's right. They expensively remove liquidity from exchanges on a high percentage of marketable orders. You know why? Their order flow contains a ton of toxic pro trader orders. They have no choice. Anyone suggesting that Schwab and Robinhood follow the same routing choices as Interactive Brokers just demonstrably does not know what they are talking about.
Can you dumb this down a little bit for those of us who aren't in the finance industry? How is it in layman's terms that Citadel and Virtu can fulfill orders for less cost and still be profitable? Is it because they are avoiding fees by processing the transaction outside of the exchange? I'm always suspicious when someone tells me a middleman is saving me money.
First of all, stop thinking of Citadel as the middleman. In some long-term sense they are, but not in the immediate sense of this transaction. The exchange is the middleman. You want to buy 100 shares of ABC. The market for ABC is $20 by $20.01. That $20.01 offer is on the NYSE. That offer is probably Citadel's offer. So you re going to trade with Citadel either way, the only question is which way. If you send your buy order to the NYSE, it will execute against Citadel's $20.01 offer. The NYSE will charge you (your broker) $.003 per share for removing Citadel's liquidity. The NYSE will pay Citadel $.002 per share for having provided that liquidity. The NYSE makes the $.001 per share difference. The NYSE is the rake.
Alternatively, Citadel offers to execute orders OTC for retail brokers. If Schwab sends the order directly to Citadel, Citadel might execute it for $20.008, giving you $.002 price improvement. And they might also offer to pay Schwab another .002 in PFOF. Now you are better off, you paid $.002 less than you would have paid on the NYSE. Schwab is better off, it saved a $.003 liquidity removing fee from the NYSE and got paid $.002, so Schwab is $.005 better off (and that ultimately impacts the price that Schwab charges you for everything else). Citadel is $.004 worse off. They lose the NYSE rebate of $.002 and they sold for $.002 less. The real question you want to ask is why will Citadel sell ABC for $.004 less to Schwab than they will sell to other buyers on the NYSE. The answer is very simple: Citadel's offer on the NYSE is open to the world. Anyone can buy it. The offer to Schwab is open to Schwab. Citadel has a long history of selling stock to Schwab's buy orders (and buying stock from Schwab's sell orders) and that history demonstrates to Citadel that when it sells stock to Schwab at $20.01...nothing happens. The next order that comes in has a 50% chance of being a sell order that they can buy from at $20, making $.006. That is not true when Citadel sells stock on the NYSE. From long history, Citadel knows that there is a really good chance that whoever it sold stock to at $20.01 on the NYSE may also have simultaneously routed a bunch of orders to buy all the other shares offered at $20.01 on Nasdaq, the shares offered at $20.02 and $20.03 on BATS. Exchange market makers routinely get run over by large, working institutional orders. So it is willing to quote narrower effective spreads OTC to retail than it is willing to quote on public exchanges open to all.
Thank you very much for taking the time to clearly explain this. I really do appreciate it.
How does someone make a profit by putting a $20.01 ABC sell order w/ Citadel while simultaneously buying on BATS/NASDAQ for the same price? Does it have something to do with liquidity rebates or just generally messing around with price discovery? Are the majority of market transactions parasitic?
That wasn't the example. I said "...Citadel knows that there is a really good chance that whoever *it* sold stock to at $20.01 on the NYSE may also have simultaneously routed a bunch of orders to buy all the other shares offered at $20.01 on Nasdaq, the shares offered at $20.02 and $20.03 on BATS." So in this example the buyer was seeking to buy all the shares on all the market centers up to $20.03. The customer wasn't a seller on any market center.
Market makers try to increase the likelihood that their orders get filled by multiply-listing their orders on multiple exchanges. So, for example, if Citadel is interested in selling 500 shares at $20.01, it might actually place orders to sell 500 shares on NYSE, on Nasdaq, on BATS and in dark pools like Crossfinder, LeveL, and UBS PIN. This increases the likelihood that Citadel will have price priority on each market center and get the fill when the buy order comes, whichever market center the buy order happens to get sent to. If Citadel just placed the sell order at NYSE, and Virtu placed the same sell order on BATS, then Virtu may end up getting the fill instead of Citadel if the buyer sends the order to BATS instead of NYSE. But it also increases the likelihood that Citadel will get filled on a lot more than 500 shares. The effort to avoid getting duplicate fills is a large part of what the investment in speed in the HFT industry is about (though it isn't the only reason). If I could make an analogy: imagine there is a 200 room hotel in Venice. That hotel owner wants to maximize their chances of renting their rooms, and they know that different potential customers have different travel website preferences so the hotel owner lists the rooms for rent on expedia, travelocity, VRBO, hotels.com etc. Now, hotel rooms don't tend to get booked by the hundreds in short time spans, so there isn't much risk that the hotel owner will inadvertently rent 600 rooms. And even if that happened, the hotel owner probably reserves the right to cancel the reservations within a certain amount of time without liability. Neither of those things are true on the securities markets. Prices are firm, executions are automatic and largely irrevocable. So that is a risk with multiply showing your liquidity. But the benefits are also substantial, just as they are to the hotel owner. So HFTs invest in speed in part to manage that risk. Speed frequently enables them to get a fill report on the NYSE and respond by cancelling their offer on Nasdaq before the buyer's order hits Nasdaq, even though the buyer believes he sent both orders simultaneously. In communications, nothing is ever truly simultaneous. This dynamic is what is very misleadingly described in Michael Lewis' book Flash Boys, where Michael Lewis improbably decided that the guy trying to book 600 hotel rooms at a 200 room hotel is the hero and the hotel owner is the douchebag.
«It's not capitalism, it's grift on a grand scale»
By and large it is the same thing, rentierism by any other name. However there is a big difference between some grift alongside productive activity and pure grift that discourages productive activity, which is what reaganism/thatcherism are all about.
«But I oppose HFT and all it entails. To the point where I would support a fee on each trade.»
JM Keynes already in the 1930s wrote:
“Speculators may do no harm as bubbles on a steady stream of enterprise. But the position is serious when enterprise becomes the bubble on a whirlpool of speculation. When the capital development of a country becomes a by-product of the activities of a casino, the job is likely to be ill-done [...]
The introduction of a substantial government transfer tax on all transactions might prove the most serviceable reform available, with a view to mitigating the predominance of speculation over enterprise in the United States.”
But there is no political support for this, "MAKE MONEY FAST" is a well-root mindset.
What should not be forgotten in all this is that liquidity in markets is the whole reason markets exist, and by having public trading, including those who will get stolen from by smarter people, you increase the capitalization of enterprise, growing enterprise for the overall good. I'm not sure that an increase in dumb money trading specifically is a boon for the creation of enterprise, but it's worth considering if there is actually a net positive. I'm sure someone has made the argument.
You said: "I'd always wondered how Schwab was able to cut their commissions to $0. I remember paying them $49.95 to buy or sell 100 shares in 1986 -- and it was a bargain. Put and call options were "cheap" at only $29.95 each. Now I know how."
If you think the answer is PFOF, then, no, you don't know how. Back in the '80s, when stocks traded in 1/8s, market maker profits and PFOF were much, much higher per share than they are today. If you want to understand why retail, discount brokerage is so much less expensive per trade, you need to look at the expenses per share executed. Interactive Brokers probably executes more volume today than the entire market traded in the 80s and it does it all with fewer than a 1,000 employees in the U.S. Exchange costs have declined, NSCC clearing fees have declined, automation has enabled brokers to drastically reduce manual processes and employees and electronic delivery has reduced statement and confirm costs.
I know. There are many factors. Schwab was once a discount broker with no financial advice services; now they offer many such money-making services. Also, simple price pressure from competitors played a big role over the years. And of course the difference in what they receive on cash deposits vs what they pay. And they offer their own funds and ETFs. There are many reasons. Most of the journey from $49.95 to $0 happened, in fact, before HFT was much of a thing.
My point is that I didn't even know this universe -- that Matt wrote about -- existed as it does. I had no idea just how much money was being made by this type of risk-free trading. And the ultimate arrival of the $0 commission, even at an long-established company like Schwab, is part of that story.
I actually dispute that transaction revenues (whether PFOF or commissions) even constitute that much money. They are not nothing, obviously, but the real money in retail brokerage is the net interest margin on free credit balances, debit balances and stock loan rehypothecation. Take a look at Schwab's income statement (page 57):
Schwab had $617MM of transaction revenue in 2019 and $6.5B of net interest revenue. Brokerage and custody are the services broker-dealers offer to attract deposits and loans. It's not that sexy of a story, not matter how some journalists try to sex it up with secretive HFT intrigue.
Yes, but you're missing a critical part of that, which is that you owe them money. If you have an account with $11MM of stock in it, and a $1MM margin loan (so $10MM account equity), your broker-dealer is allowed to borrow up to $1.4MM of your stock. Your broker-dealer can then use that stock to secure a loan to itself, to lend to another customer to sell short or lend out to the street. The amount they borrow (or receive as cash collateral if they lend out), is a credit in the broker-dealer's customer reserve formula, so in the event the broker-dealer becomes insolvent, SIPC will have the funds in the reserve account necessary to repay that loan or terminate that stock borrow transaction and retrieve your securities. It's a relatively elegant system that respects the fact that there is really no difference between using customer A's cash to fund customer B's margin loan and using customer B's own securities to fund customer B's margin loan, by borrowing funds secured by customer B's securities or lending customer B's securities to a short seller for cash collateral.
As a person at an HFT I can confirm there is a fee on every transaction. It's how the exchanges make their money. They supply rebates for market making, but that requires a market maker to execute an agreed upon number of trades per cycle. If a firm doesn't meet their requirements, then all fees are due and they stand to lose a lot. I haven't personally read the details of any of the MM agreements my firm has been involved with, so I can't tell you if we were incentivized to post more orders on one side of a market or the other, but in my experience, it was pretty evenly distributed between buy and sell orders where we could pick and move our orders depending on what we thought the market would do, i.e. if there was upward pressure, we might keep bid at the limit price and sell orders a few ticks higher in hopes we'd get a few point winner to make a few dollars on the trade. The secret sauce is doing this thousands of times a day and getting a sweet rebate on the fees.
Or maybe increase the fee. My major objection is when you have traders making money with no risk, that means people taking the risk are making less (or losing) money. I recall some companies having (maybe still have) special permission to install on-site servers at an exchange so they could see orders and front-run them before they went through. We deserve better than that.
I get that market makers have to make a profit, but if you do that through visible commissions, retail investors (whether direct or through funds, ETFs, pensions) are aware of the transactional costs.
Matt! YES! My favorite reporting you do so very well! THIS is why I subscribed. This.
so many folks, just do not know, nor want to know, what's up.
There is ONLY ONE Industry across the entire globe: Finance
ALL other global "industries" are in fact, subsidiaries (owned and controlled) by Finance (Bankers)
in reality, there is no "Big Pharma", "Big Insurance", "Big Tech", "Big Weapons (MIC)", "Big Agriculture", etc etc. Now ADD "Big Water"
All those industries are controlled at the top, by a handful of straw man corporations. Monopoly.
The majority of "shareholders" across all industries, are in fact, just insider banksters. Predictable. When you have unlimited access to source credit issuance, then turning fiat credit into tangible industry and physical property, is a no brainer.
2010: A couple of Swiss data analysts built a DB of the 46,000 largest transnational corporations, and populated the tables with those companies c-suite and board members. the DATA, not theories, proved 97% of global (yes, including fake enemies like China and Russia) mega-corporations, are owned by the same few people.
Literally, total and complete monopoly.. of Everything. Of course, it's worse today, almost 10 years later
This is the link to the actual White Paper pdf, for any skeptics:
> proved 97% of global (yes, including fake enemies like China and Russia) mega-corporations, are owned by the same few people
Glattfelder's paper proves nothing of the sort. They did show that 80% of *control* (not ownership) is exerted by 737 corporations. These corporations are mostly banks and investment funds which control and invest their clients' money, but do not own it.
Are we reading the same paper? In addition, this is not a "white paper", it's an actual peer-reviewed academic paper.
this is a quality danish documentary (VPro) featuring Nanex's analysis of market feeds and such. a non biased, non partisan, educational view into HFT and "markets"
Documentary: Money & Speed: Inside the Black Box (VPRO Backlight)
And in any case executives and board members are not "the owners" of any public company, ownership is usually highly dispersed with top holders being large funds like BlackRock.
Great piece! I work in Chicago at an HFT firm and know many people who work at the firms you mention and am quite familiar with all of the practices you described. I think you have done an exceptional job clearly distilling the general practices in a way that many insiders aren't able to do nor fully understand. I think your piece is a brilliant contrast to this hot mess NPR broadcast the other day: https://www.npr.org/2020/12/07/943768902/former-day-trader-warns-others-of-the-risk-of-addiction
I was not aware of Robinhood specifically working their order-flow through these firms, but I did know that Citadel and Wolverine were handling customer orders in their capacity as market makers. I think the general legality of the practice is correct and allows individuals to leverage the financial weight of these large corporations against the even larger ones, like JP Morgan and Goldman. I would assume there must be some speed and order priority gains versus going through a fund or brokerage account. I could be wrong, but it's quite likely that this is a valuable tool for individual investors and basic low-key traders. That said, it's exactly akin to sitting a bunch of fish at the Poker World Championship because it simply doesn't excuse a user from developing fairly deep knowledge of trading and investing. For any of your users interested in learning more, I suggest becoming acquainted with [investopedia](https://www.investopedia.com/) which got me through my first few years as an imposter in the industry.
> 'while HFT proponents insist their practices narrow spreads, some critics maintain that high-frequency trading ends up widening spreads. In Saluzzi’s book “Broken Markets,” for instance, he estimates that while spreads are narrower in “perhaps 5% of the most actively traded names,” they’re wider in “the other 95% of the market.”'
I think the issue might be that since the complete digitization of exchanges there is far more price discovery happening across products and yield curves. For instance, many, many people trade E-mini futures (S&P) and the market is extremely tight and liquid, but all the activity is in the first month of the contract. Similarly with oil and most commodities. It is far more difficult to guess the prices of these contracts in the future and historically, while they could be traded, no one was really interested. The goal is to try and discover what the price of a contract a year or more out on the curve (up to a decade in some cases) might be, and a well capitalized firm can start to put small orders on these contracts to see who else is interested and what they think is a fair price, make a good long-term bet and hopefully dial in on a better price as the contract nears it's expiration.
I think electronic trading has made this far more possible and profitable and so the greater activity in these contracts may appear like large price spreads opening up, but may in fact represent real bets on contracts previously unavailable or un-seeable, i.e. you're not seeing a widening price spreads, just more contracts with naturally wide spread. I'd be interested to hear more from the detractors to see if their notions of price mismatches is something other than what I've seen.
As for HFT and it's goodness or badness...well....I've thought long and hard about this. My own firm is like a fly on a whale carcass and has pretty much no effect on markets that I can deduce. We don't trade equities and we no longer make markets. It was impossible to hold the line against the bigger companies who can trade on billions of dollars worth of margin. That said, I'm not sure any individual has any business trading on the stock market without a real understanding of the fundamentals of investing. Trying to scalp for a few bucks here and there can be quite profitable but also wipe out an account and as you said in the article, the key is to make sure this is just funny money and not your kids college fund. In that sense Robinhood give people the ability to try stuff without the brokerage fees, the regulatory certifications, and other impediments, while benefitting from optimized NBBO and trading algos and the leverage of larger companies. I don't like the dopamine trap the app seems to promote, I can't believe they allow trading on margin at all, but I'm not sure it's worse than any of the other digital junk food people consume.
Glad to see someone else point this out. Objectively, spreads are tighter (though the depth isn't large enough to support seamless large trades at the face-value bid/ask levels, ofc) and individuals are enabled to transact much more seamlessly with electronically made markets. That being said, Robinhood absolutely needs to have more attention focused on what it's enabling, which is something I've been arguing from a returns-based standpoint rather than an order flow standpoint.
Yeah, I think there might need need to be an extra layer of consumer safeguards, but I'm not familiar enough with the product to have any ideas what those might be.
That old adage, "There's a sucker born every minute" has never been truer than what is going on here. How do you think that around 85% of all stock is owned by 10% of investors. The stock markets have sold these type of scams to uneducated small time investors for years because it like taking candy from a baby. .
You can't blame Bathsheba for David being a horndog king. The temptation is there. There are other venues, say, horserace betting, where you (supposedly) only have to be smarter than the other horserace bettors. My Dad looked around the track crowd and concluded that this was plausible. Didn't work out for him, which, as an intelligent, rational fellow, he could only attribute to...a years-long run of viciously bad luck.
Oh, left off my point...which was, if you look around Wall Street and see the quants, analysts and super-investors that are there (as opposed to the touts, grifters and drunks my Dad saw at the race track), you should be aware that you are going up against them and invest accordingly. Lest you too run into a "years-long run of vicious bad luck".
Well for starters, even in good times, most people dont save. They need that dopamine hit now! In good times most people also need to create a villain and a reason why they fail. Found yours https://www.youtube.com/watch?v=xGn55BRyDSk
My millennial kids sought my advice about investing. I warned them, as any parent should, that they will be - in essence - gambling. I gave the short 5 minute speech about manipulated markets, bull markets making people feel like genius investors, buy and hold, etc. Just like the sex talk as they entered adolescence, I believe it was my responsibility to give them this talk in their early adulthood.
fuckers. Always looking for a new, bigger, and better way to screw someone. There have to be other young people like him. I hope you scream this warning from the rooftops.
When money men looked for new ways to bait the hook, "youth" was the answer. What better way to sell a dog (uber, lyft, and a thousand others) than to sell it TO idiots (youth) BY idiots (youth)...
Bringing up China is always an invitation to get flamed, but I’ll do it anyway and see if anyone bites.
For anyone paying attention to Chinese financial markets, the Party has crunched down on all manner of IPO’s, wealth management companies, and other Chinese business people’s attempts to replicate the quick cash scenarios of our markets. This can be interpreted in several ways, but here’s a couple....
China was in thrall to everything about western markets until 2008. Previously, they were like the kids watching Robinhood wealth explode and wanting in on the action. Then, 2008, and it was the epiphany, that, you know, maybe Western ideas about markets aren’t so hot after all, and there began a decade + of restrictions and controls to prevent a flame out. This can also be interpreted as the Party looking to crush incentives of individuals to the government could control all things including their own blockchain based crypto currencies. OK, true enough, it could be and probably is.
There’s also the realization from many investors in China that the government was making sure that loose cannons were not desirable, and with confidence and coherency in the Chinese market at already insane unsustainable levels, maybe it was a good idea to put some clamps on all these financial innovators to prevent a 2008 type blowup in China.
Controls. Regulation. This is what Commies do and it crushes society. Or not. China seems to be doing great right now, and the future looks bright enough that one should invest in shades. I was in Wuhan for the great lockdown, saw how it works, and the storylines are always more interesting in the wan tedium representing USofA conventional media sources.
«China was in thrall to everything about western markets until 2008»
I think it is more political than that: the current party lines are "moderate prosperity" and "harmonious society", and the current party goal is to reduce poverty and inequality, rather than sing "laisser faire" and "enrichissez vous".
«The government was making sure that loose cannons were not desirable, and with confidence and coherency in the Chinese market at already insane unsustainable levels»
In particular the party is very worried about "social instability", and pyramid schemes, insane speculation, etc. have created protests, complaints, dislocations. My impression is that the party have chosen a more "german" route to further development than a reaganista/thatcherite "screw-everybody-else" route.
The difference is pretty much in the notion of "our own": in the USA and the UK most of the population are not "our own", that's reserved to the masters class (upper class) and in part to their trusties (the upper-middle class), the others are disposable servants (a mindset also popular in Old Dixie, or Brazil or Dubai today), in Germany or China most of the population are regarded as "our own", even if poorer rather than richer.
In order to get an impression, however romanticized, of how the asian economies are doing, I have been watching many asian TV series comedies (Viki and Netflix) and in particular chinese-mainland ones, and they depict amazingly high living standards for the "developed" part of China, in particular of course Shanghai, which is clearly becoming the centre of China and the world. I guess Zhu Rong-ji and his friends worked pretty well.
and the future looks bright enough that one should invest in shades.»
China has a lot of problems but the post-Mao leadership seems to have taken Singapore, Germany, Japan and to a lesser extent south Korea and Taiwan, as current models, and they seem well aware of those problems.
As to the future I really hope China does very, very well: there are so many chinese and among them so many brilliant and motivated people, there could be a real surge in science and technology and innovations coming from China
You are correct, and I share your hope. I love Shanghai, but spend most of my time out in the deep countryside of rural Hubei. While the standard of living is nothing anyone in America would be impressed with, I can say that in the last 10 years there has been a quantum leap in living standards, all new infrastructure, rural villages being electrified with vast solar arrays, wind farms, and everyone now has a new house instead of the old mud brick jobs, albeit these new houses are concrete boxes in a style that can only be described as a mish mash of concrete with Western influenced architectural decoration. IOW, people are vastly better now than they were 10 years ago, and compared to 20-30 years ago, it’s like almost unbelievable. And, expect an overwhelming surge in science and technology innovations coming out of China. I’ve been in the industrial parks and facilities. People here have no idea what’s coming. None. It all gets buried in idiotic MSM narratives and moronic political plays.
«People here have no idea what’s coming. None. It all gets buried in idiotic MSM narratives and moronic political plays.»
The narratives and plays are driven by people who know very well something big is coming from China. The fear is that if there is a single global economic system it will eventually be dominated by China.
The american plan which is entirely rational is to split the global economic system into a chinese and an american sphere of influence, as most countries would currently choose the american side as it is still the bigger one, which is unlikely to be the case later, resulting in a much smaller and isolated chinese sphere of influence.
*sigh* I hate to inject a bit of meta-analysis into all this well-informed and intelligent figgerin', but here goes:
If you think you can make any kind of linear projection and come up with an accurate prediction of "How things will be in 2040"...well, I think that is naive. Here's my more cynical projection: If they continue to centralize control, of the power and the wealth, even allowing a degree of 'trickle-down" to the masses, they will create an irresistible prize. China has always tended towards centralization of power, the success of which can be seen in their history, which, euphemistically, is "not unmarred by strife, conflict, war and rebellion".
IOW, the point of failure is not to be found in analysis of markets, but in human nature. People will backstab, lie and steal for a slight advancement in status or wealth. When you create the glittering prize of absolute power and near-unlimited wealth...well, you are motivating some extreme, even suicidal, behaviors to contend for it.
Almost guaranteed to break your well-informed and intelligent projections from the markets, I think.
OK, maybe. I wouldn’t describe anything I’ve seen thus far as “rational”, though. And, if there is an actual “plan”, I don’t see a single fucking thing that would bring that plan to actuality. IOW, there is no plan. Maybe a generally directed stumble, or a fumble where we recover the ball...but a plan? I don’t see no steenkin’ plan, anywhere.
While I myself have shouted myself dry about how "democratizing" markets really just means allowing individuals to lose their money at high rates, I feel like the focus of attention on high frequency trading and order flow is misleading. It is a common misconception about the trading industry, but allowing market makers to see order flow and execute usually leads to better prices for individuals to trade, and at the worst, getting the price you yourself specificy with a limit order - the spread a market maker makes is a fraction of the "cost" you'd be paying in the 1980-2000s for some banker to charge you an 1/8th or a 1/16th of a dollar to place your trade.
"Flash Boys" is also a highly misleading characterization of how markets work. Though Scott Locklin ( https://scottlocklin.wordpress.com/2014/04/04/michael-lewis-shilling-for-the-buyside/ ) castigates the book in a much better manner than I can articulate in a short comment, it is predominantly large funds and banks who benefit from "speed bumps", a concept that is pitched as "helping the little guy" when it really is meant to entrench banks back in the market-making industry, which they got ran out of by HFTs.
Individual market makers really don't make all that much money from order flow. Even in 2020, Robinhood will barely scratch 1 billion, if that, in revenue for selling order flow, and trading volume literally cannot get any higher from retail. I would estimate the total profit pool available from all market making activity across all firms (Virtu, one of the oldest and largest firms, only does 3 billion in revenue) at somewhere in the low 8-figures. Compare this to any asset management firm, (or even the Harvard Endowment fund!) where individual firms with a multiple billions will be taking in 9-11 figures in fees
I think Robinhood has the potential to erode the future wealth of a generation, but I suggest focusing more on the damage individuals are doing to their own returns and accounts absolutely destroying saving and wealth accumulation over time rather than directing your attention to the HFT industry, which, at the end of the day, is essentially just a service provider for functioning electronic markets.
Thanks Ven, your replies really help flesh out the scene for those not in the game.
My opinion: trading with fundamentals and long term holds require a faith not found in most churches. Large hedge funds (2 & 20) not worth it either. If you really want to have that nest egg in retirement, you will have to actively educate yourself on how markets work and look at statistical indicators in order to understand how a given issue is performing. Sometimes your best bet is to stay out of a market for a month rather than keep soaking in that $$ pool hoping to catch a wave that could end up crushing you.
Food for thought: imagine if we took even half of the money being sent to JP Morgan and Goldman (who famously referred to their clients as muppets to abuse) and invested that locally, how much more stable your area would be. Imagine if instead of paying Chase or CapOne 24% interest on your credit card, that you could only pay 10% to your neighbor. That's more than neighbor could make on most safe investments. Yes, I do know about the provisions for loss, admin, etc., but just imagine that money staying and helping local. Those large firms, who got bailed out repeatedly, are parasites on the average person. You may only feel a "mosquito bite" in impact, but you've metaphorically gotten financial malaria in the long run. I'm kinda rambling, but I think we do need to approach investment in new ways, because some of these old, greedy fin firms will crash and get bailed, and you won't.
So I presume your first question relates to the fact that Virtu basically never loses money during a trading day. But this is not due to predatory behavior: at it's core, market making allows transactions to occur when there isn't necessarily a buyer matched to a seller. There has to be an other end of every transaction, but if we wanted to buy Ford stock and had to wait for someone to come along who wanted to get rid of theirs, you would see a lot less transacting on the market, and the prices that people might be willing to buy or sell it are in no way guaranteed to match. So all that Virtu is doing (and doing a good job of) when they make money day in day out is undercutting the people who want to buy stock, the people who want to sell stock, and the other firms trying to do the same thing to "win" the trade and pocket the difference.
As to your second question, I assume it relates to volatility and spreads (and liquidity) widening. Volatility is just uncertainty at the end of the day - when people do not know what is going on, they are more wary of transacting in markets. If there are less people "showing" that they are willing to transact, spreads will naturally widen. But a key concept of market making is that you want to take as little price risk as possible - remember, you want to pocket the spread between the buyer and seller, not take the price risk yourself. "HFT" is simply transacting from a buyer/seller to another as fast as possible. When neither buyers or sellers are showing willingness to trade, it is very hard to tighten a spread without taking massive risks. This is no different from whether it's an algorithm placing bids and asks or a human sourcing trades - the difference is algorithms are built seamlessly on top of billions of dollars of infrastructure, so they can undercut the human much more efficiently and in fact provide better prices than a human would manually be able to make in basically every single scenario.
I assume the next topic that will be brought up is the flash crash, but that was not a failure of market making algorithms, contrary to what it is normally pitched as, but rather order placement speculative algorithms messing with how ETFs are calculated as a conglomeration of their holdings, among other things.
You are correct. If you wake up every day and you know you are going to make money life is good. In your comment you contrast Virtu with others that may make more money, but they have significant market risk as we sit here today at ATHs. In the interest of readers there are two different dynamics to profitability - no risk or potentially lots of risk.
Proponents of HFT always mention the liquidity brought to the market by the firms. The liquidity "benefit" is a mirage.
Sure, lets see if Donald Trump will pardon Navinder Sarao. He would have my support.
In my experience, the place most easy to see the liquidity is the e-mini futures contract on CME, others may have better examples. But in this particular market there are so many participants that large orders won't move the market so much that individuals are going to get blown out by big moves. Of course, a downturn in the market will punish the market makers and they will pull their order and reduce liquidity, but those are the guys we want to take the brunt of the big moves. It's sort of understood that's the price they pay for the huge fee rebates they get and the money they make from the trading on small moves throughout a certain period.
From what I recall, there's a bit of this in pure equity market as well, at least in the large (say, top 500) companies. The idea is that there are enough participants and the price range is so tight, that no single large player can swing the price around. In practice, I don't know...maybe it's true, but who knows how long it will stay that way.
Great stuff, Matt, and important reporting. In follow up, I'd be really interested in more depth exploring how their practices compare to TD Ameritrade. I know that HFTs front run my orders that I place thorugh TDA and it bothers me, but I can only do so much to fight it. So is Robinhood exceptional or typical? Hard to tell so far but this is an important first story.
That's a good question. I've used Schwab, TDA and Robin Hood, and I haven't noticed a significant difference. Article even mentions that Schwab has some of the same practices.
So is Robin Hood uniquely 'bad'? Or is that just the norm for services that cater to retail investors?
Robinhood's distinction is that it makes that so much easier and so much more attractive for suckers (and most suckers don't know that they are suckers). As another commenter reminded us, "if the service is free you are the product", and in effect Robinhood sell access to their customers to Wall Street corporations, and Wall Street are not known for being charities.
Several commenters here seem to argue that the government should not interfere with the indefeasible rights of consenting suckers to be shafted by shysters, which sort of of confirms that is the business model of Robinhood.
"Robinhood's distinction is that it makes that so much easier and so much more attractive for suckers"
Maybe. But I don't see how this differs from a platform such as Think or Swim (TDA). Both have a very low bar for options trading and engage in the same activities mentioned in this article. ToS has more customization and can be more complicated if you want it to be, but does that make it somehow less evil? I'm not sure if there's a definitive argument for that.
As to "much easier and so much more attractive", another commenter on this article wrote as to how cool their cellphone app is:
“I've been using Robinhood to buy a few stocks/funds here and there and so far I have to say the user experience is far superior to anything else I've used.”
«But I don't see how this differs from a platform such as Think or Swim (TDA)»
Robinhood is not the first or only market-gambling app, there are even (in some countries) sites for spread-betting on stock movements, always looking for suckers. But so far Robinhood has been the "best" of them, in part because it is a particularly slick app for mobile phones, and so can reach a lot more suckers than stuffier desktop-flavored "legacy" ones.
Yes. Although if they cost you 5% versus 2.5% long term would you perceive it? Not clear to me. If you read Flash Boys the big funds thought they were losing 2.5%-3% by being front run for many years.
For all the doom and gloom I actually learnt a lot about stocks because of Robinhood. Then again I am working individual that only invests "extra" money.
«I am working individual that only invests "extra" money»
The kind of 1927-style speculation that Robinhood makes so easy is essentially entertainment, so as long as you like entertaining yourself that way it is fine. It is a bit like playing poker for cents.
More or less thats the way since i am only learning slowly about the market and what drives the price. A rule of thumb is to only invest in stocks that you use personally.
Good point. I've had people say they invest in companies whose products they like because it adds "rooting interest", like for their favored sportsball teams. As long as the money isn't a painful loss, seems fun and harmless.
Also: should be reserved for people who can correctly read their balance as presented in the app., ref: this tragic story, but that's out of the developers hands.
I'm sure it's designed to present info as clearly as possible.
Sorry, cancelation what? No, he's just repeating talking points. There's not rational analysis here, just some anecdotes, and the intimation of a dark motive.
@diane reynolds, there are documented issues with RH and other financial apps, not to mention every ecommerce site on the planet, that use dark patterns to drive behavior. Matt's piece uses the term "mousetrap" effectively, I think, in that yeah, you may get the cheese, but you're more likely to get your neck snapped.
"Robinhood, the investing app, uses a gamified interface to make investing seem easier than it is, encouraging its users to trade frequently, which most personal finance experts do not recommend for long-term investing."
That dark, lazy characterization of a product that millions of people use as a first chance to participate in the capital markets is exactly what I'm criticizing. Easy to sit on the sidelines and criticize something that created an opportunity for millions of people. It is democratizing. Of course it also democratizes losing money, but that's personal responsibility.
Finance experts are probably correct, but there's a conflict of interest in their opinion. Of course they would prefer you handle your savings to them, for a fee.
FWIW I don't use RH, nor any financial planning or management app. I'm both financially literate and aware of my digital surroundings having been in the UX field professionally for many years.
I absolutely agree that it democratizes losing money which is why my initial comment on the article was "caveat emptor." There is nothing illegal about the firm or the app. But just as I wouldn't recommend learning how to drive a manual transmission in a Porsche 911 Carrera S, I wouldn't recommend RH for the financial novice.
@diane i'm glad you're on here. you bring valid arguments to the conversation, and demand that others do the same. i only wish andrew sullivan would update his substack to allow commenting ;-)
Her point is simple - RH is a tool. Caveat emptor on using it. Does RH make certain types of investing "too easy"? Maybe. So what? I like using it for options trading but I also don't do leveraging. If you don't know what you're doing, you're going to crush yourself on RH. Like many things in life, unless you understand the risks you're taking before you take them, you're going to learn the hard way.
Imagine. A service that lets common people make a buck out of the greatest transfer of wealth set forth by the Fed. Must be a bad thing. Only the rich should be allowed to get richer. WTF did I just read..
We love to talk about inequity, and show plots of how the top 1% has gotten richer, while most of the population has not. We run stories on how Bezos and other billionaires added billions to their wealth during the pandemic. How do you think they do that? How do you think the 1% get richer, and have gotten richer, during this record-breaking bull market since 2008? They own equity. We might not own as much as they do, and we might not earn as much as they do, but to say that opening the doors to the 10, 25, or even 50% – or anyone that has a cell phone – access to take a tiny cut of that record-breaking profit, is not only stupid, it's criminal.
The saying goes if the service is free, you are the product.
Exactly right. The bight eyed smart kids from Silicon Valley will now be running a million scams predicated on being the "The Facebook of [whatever]." And a few will make billions, producing nothing.
“producing nothing” essentially gathering information about “clients’ behavior tendencies” in this environment and then selling it in a different package. Sure does sound fb-like to me.
It would sure be more fb-like if they were using data on customers to market to customers -- say by running a high tech penny stock boiler room, pushing bullshit stocks on pie-eyed adolescents. But I'm not getting that from the article -- just that trading behavior is being used by hedge funds who then make their own trades. Or something like that.
Really, the scariest part is the shadowy underweb of the process and the inability to determine who or WHAT is working the money or profiting from it.
Could be a giant net like TikTok being used by nefarious governments to engineer bubbles and pops. That's potentially catastrophic.
Whenever a young kid on my portfolio team (I worked on Wall Street for years) would say to me, "this is kind of like gambling" I'd always reply, "No, IS gambling, and the sooner you understand that the better you will be at this."
The insane urge to get rich overnight, without having to actually work for it, has ruined many a man over the centuries. Market speculation is America's favorite past time.
From the article: -- “It’s been famously said, ‘Never confuse a bull market with brains,’” he says, noting the S&P 500 is up nearly 64% since lows on March 23, right around the time the Robinhood’s numbers began zooming skyward."
Robinhood is just riding a wave of cheap credit, greed and stupidity. They are not the cause of the massive asset inflation this year.
On March 13, the Federal Reserve announced that it was slashing borrowing rates (for the Big Banks, not for you) to zero again, and resuming "Quantitative Easing," its gargantuan asset purchase program (of securities from banks at inflated prices, not from you.)
There's the real villain.
«The insane urge to get rich overnight, without having to actually work for it, has ruined many a man over the centuries. Market speculation is America's favorite past time.»
From JK Galbraith, “The Great Crash 1929”:
page 32: “One thing in the twenties should have been visible even to Coolidge. It concerned the American people of whose character he had spoken so well. Along with the sterling qualities he praised, they were also displaying an inordinate desire to get rich quickly with a minimum of physical effort.”
page 195: “The fact was that American enterprise in the twenties had opened its hospitable arms to an exceptional number of promoters, grafters, swindlers, impostors and frauds. This, in the long history of such activities, was a kind of flood tide of corporate larceny.”
page 25: “Just as Republican orators for a generation after Appomattox made use of the bloody shirt, so for a generation Democrats have been warning that to elect Republicans is to invite another disaster like that of 1929. The defeat of the Democratic candidate in 1952 was widely attributed to the unfortunate appearance at the polls of too many youths who knew only by hearsay of the horrors of those days. It would be good to know whether, indeed, we shall some day have another 1929.”
"It would be good to know whether, indeed, we shall some day have another 1929.”
Black Monday 1987, paper tigers 1997, 2008, etc. ad in.
Boom and bust will continue on a sine wave until the Monopoly money disappears.
LOL history sure does rhyme.
More than you think; "The Great Crash 1929" was written in 1954...
And the title of its chapter 4 is "In Goldman Sachs we trust", and is entirely devoted to the activities of the vampire squid in the 1920s.
If you haven't read that book yet you might really enjoy it (it is also written exceptionally well and wittily), it is uncanny how well it describes how things work, only the details have changed, and not even that much.
Also the history of Wall Street does not rhyme accidentally, the lobbies and vested interests and even most of the tricks are the same.
Good God Almighty. This application is appealing to the very same cohort that believes that taking out $75,000 to $100,000 in student loans to obtain a degree in gender studies is a good deal.
And AOC is frenetically drafting legislation to forgive losses incurred on Robinhood
AOC is against capital markets. She will sell a lousy t-shirt for $65 though
LOL...she may be against the markets, but she LOVES forgiving stupid irresponsible behavior and making the middle class pay for it
I thought it was $85....
Doesn't matter... She's worse than Bill Clinton -feinting left, swinging right.
She talks a good one, but most of her money comes from Silicon Valley. Hellfire, SHE is a product of Silicon Valley money's desire to put a kind face on their authoritarian bamboozle.
It's not beauty, it's youth
LOL she's helping her tech buddies and donors to cover it up so that suicides due to losing nearly a million don't make the news.
Well, to be fair he didn't kill himself because he lost money, he killed himself because he misread his balance. Still, AOC is an idiot.
I can't tell you how interesting I found this. And that's not hidden whining about topic choice because, these days, frankly, I'm more interested in criticism of the media and "woke" than I am financial shenanigans. However, this pushed all my buttons.
I'd always wondered how Schwab was able to cut their commissions to $0. I remember paying them $49.95 to buy or sell 100 shares in 1986 -- and it was a bargain. Put and call options were "cheap" at only $29.95 each. Now I know how.
I'm a capitalist through and through. But I oppose HFT and all it entails. To the point where I would support a fee on each trade. I won't notice a penny when I buy or sell 100 shares, but the skimmers will.
I loved how you put in quotes "add liquidity" because that's their go-to response. But are they talking about lessening the spread, or are they talking about liquidity during a crash? I would say real retail investors don't care much about the former, and the latter seems non-existent when we have the big down days.
Significant commissions and a tiny fee for each trade are, in my mind, GOOD things. They discourage short-term trading and encourage serious investment. But, hey, look, I was young once. I fell in love with options trading. Young people dream big, and options allow that. And even if you lose money, you are gaining knowledge. But I think the lessons are better when you are paying $30 a pop.
The amounts of money paid by Citadel, Virtu, and Wolverine were staggering to me. You know, a simple way to explain my big-picture complaint is with a poker analogy. If there is no rake, the players take home all the money, may the best man win. But if there is a rake, every player either loses or wins less.
Like I said, I'm a capitalist who loves investing. But I'll never understand why so many who share my views are so happy to tolerate these "free money" schemes. It's not capitalism, it's grift on a grand scale. Even if the skimmers and schemers insist it "adds liquidity." I'd rather pay a commission and keep everything in the light of day.
I'm with you 100 percent on this.
Your rake analogy is dead on. Wish I’d thought of it.
It isn't, though. The idea that Robinhood customers would be better off if Robinhood sent their orders directly to the exchanges is just demonstrably untrue. It costs 30 mils to remove liquidity from an exchange and you get a 20 mil rebate for providing liquidity on an exchange. Retail broker orders are largely marketable (liquidity removing) orders. Sweet, non-toxic marketable order flow sent to an exchange will cross the spread, execute at the NBBO and be charged a liquidity removing fee for the privilege. In a small percentage of cases it might be price improved by executing against a non-displayed mid-point order resting on the exchange. If the retail broker sends the order to a market maker, the market maker will execute it at a price better than the exchange price (higher average price improvement), not charge a liquidity removing fee and even pay the retail broker PFOF which, through the magic of competition, causes the broker to lower or eliminate commissions. This is really not debatable. I mean, we can debate it here, of course, but if you know what you are talking about, there is no serious question on this point.
The only people who are best served by sending marketable orders to the exchange are people with no other choice. The reason why institutions remove liquidity from exchanges is because their order flow is toxic, predictive of future price changes and adversely selects the market maker. Accordingly, the market makers not only do not price improve or pay the institution for the order flow, they won't even give it guaranteed fills. Instead, they will consent to receiving the institutions' orders on an IOC basis and execute it when it suits them and let the order cancel when it doesn't. Take a look at Interactive Brokers' 606. What's different about their numbers from Schwab and Robinhood's? Yeah, that's right. They expensively remove liquidity from exchanges on a high percentage of marketable orders. You know why? Their order flow contains a ton of toxic pro trader orders. They have no choice. Anyone suggesting that Schwab and Robinhood follow the same routing choices as Interactive Brokers just demonstrably does not know what they are talking about.
Can you dumb this down a little bit for those of us who aren't in the finance industry? How is it in layman's terms that Citadel and Virtu can fulfill orders for less cost and still be profitable? Is it because they are avoiding fees by processing the transaction outside of the exchange? I'm always suspicious when someone tells me a middleman is saving me money.
First of all, stop thinking of Citadel as the middleman. In some long-term sense they are, but not in the immediate sense of this transaction. The exchange is the middleman. You want to buy 100 shares of ABC. The market for ABC is $20 by $20.01. That $20.01 offer is on the NYSE. That offer is probably Citadel's offer. So you re going to trade with Citadel either way, the only question is which way. If you send your buy order to the NYSE, it will execute against Citadel's $20.01 offer. The NYSE will charge you (your broker) $.003 per share for removing Citadel's liquidity. The NYSE will pay Citadel $.002 per share for having provided that liquidity. The NYSE makes the $.001 per share difference. The NYSE is the rake.
Alternatively, Citadel offers to execute orders OTC for retail brokers. If Schwab sends the order directly to Citadel, Citadel might execute it for $20.008, giving you $.002 price improvement. And they might also offer to pay Schwab another .002 in PFOF. Now you are better off, you paid $.002 less than you would have paid on the NYSE. Schwab is better off, it saved a $.003 liquidity removing fee from the NYSE and got paid $.002, so Schwab is $.005 better off (and that ultimately impacts the price that Schwab charges you for everything else). Citadel is $.004 worse off. They lose the NYSE rebate of $.002 and they sold for $.002 less. The real question you want to ask is why will Citadel sell ABC for $.004 less to Schwab than they will sell to other buyers on the NYSE. The answer is very simple: Citadel's offer on the NYSE is open to the world. Anyone can buy it. The offer to Schwab is open to Schwab. Citadel has a long history of selling stock to Schwab's buy orders (and buying stock from Schwab's sell orders) and that history demonstrates to Citadel that when it sells stock to Schwab at $20.01...nothing happens. The next order that comes in has a 50% chance of being a sell order that they can buy from at $20, making $.006. That is not true when Citadel sells stock on the NYSE. From long history, Citadel knows that there is a really good chance that whoever it sold stock to at $20.01 on the NYSE may also have simultaneously routed a bunch of orders to buy all the other shares offered at $20.01 on Nasdaq, the shares offered at $20.02 and $20.03 on BATS. Exchange market makers routinely get run over by large, working institutional orders. So it is willing to quote narrower effective spreads OTC to retail than it is willing to quote on public exchanges open to all.
Thank you very much for taking the time to clearly explain this. I really do appreciate it.
How does someone make a profit by putting a $20.01 ABC sell order w/ Citadel while simultaneously buying on BATS/NASDAQ for the same price? Does it have something to do with liquidity rebates or just generally messing around with price discovery? Are the majority of market transactions parasitic?
No trouble.
That wasn't the example. I said "...Citadel knows that there is a really good chance that whoever *it* sold stock to at $20.01 on the NYSE may also have simultaneously routed a bunch of orders to buy all the other shares offered at $20.01 on Nasdaq, the shares offered at $20.02 and $20.03 on BATS." So in this example the buyer was seeking to buy all the shares on all the market centers up to $20.03. The customer wasn't a seller on any market center.
Market makers try to increase the likelihood that their orders get filled by multiply-listing their orders on multiple exchanges. So, for example, if Citadel is interested in selling 500 shares at $20.01, it might actually place orders to sell 500 shares on NYSE, on Nasdaq, on BATS and in dark pools like Crossfinder, LeveL, and UBS PIN. This increases the likelihood that Citadel will have price priority on each market center and get the fill when the buy order comes, whichever market center the buy order happens to get sent to. If Citadel just placed the sell order at NYSE, and Virtu placed the same sell order on BATS, then Virtu may end up getting the fill instead of Citadel if the buyer sends the order to BATS instead of NYSE. But it also increases the likelihood that Citadel will get filled on a lot more than 500 shares. The effort to avoid getting duplicate fills is a large part of what the investment in speed in the HFT industry is about (though it isn't the only reason). If I could make an analogy: imagine there is a 200 room hotel in Venice. That hotel owner wants to maximize their chances of renting their rooms, and they know that different potential customers have different travel website preferences so the hotel owner lists the rooms for rent on expedia, travelocity, VRBO, hotels.com etc. Now, hotel rooms don't tend to get booked by the hundreds in short time spans, so there isn't much risk that the hotel owner will inadvertently rent 600 rooms. And even if that happened, the hotel owner probably reserves the right to cancel the reservations within a certain amount of time without liability. Neither of those things are true on the securities markets. Prices are firm, executions are automatic and largely irrevocable. So that is a risk with multiply showing your liquidity. But the benefits are also substantial, just as they are to the hotel owner. So HFTs invest in speed in part to manage that risk. Speed frequently enables them to get a fill report on the NYSE and respond by cancelling their offer on Nasdaq before the buyer's order hits Nasdaq, even though the buyer believes he sent both orders simultaneously. In communications, nothing is ever truly simultaneous. This dynamic is what is very misleadingly described in Michael Lewis' book Flash Boys, where Michael Lewis improbably decided that the guy trying to book 600 hotel rooms at a 200 room hotel is the hero and the hotel owner is the douchebag.
«It's not capitalism, it's grift on a grand scale»
By and large it is the same thing, rentierism by any other name. However there is a big difference between some grift alongside productive activity and pure grift that discourages productive activity, which is what reaganism/thatcherism are all about.
«But I oppose HFT and all it entails. To the point where I would support a fee on each trade.»
JM Keynes already in the 1930s wrote:
“Speculators may do no harm as bubbles on a steady stream of enterprise. But the position is serious when enterprise becomes the bubble on a whirlpool of speculation. When the capital development of a country becomes a by-product of the activities of a casino, the job is likely to be ill-done [...]
The introduction of a substantial government transfer tax on all transactions might prove the most serviceable reform available, with a view to mitigating the predominance of speculation over enterprise in the United States.”
But there is no political support for this, "MAKE MONEY FAST" is a well-root mindset.
What should not be forgotten in all this is that liquidity in markets is the whole reason markets exist, and by having public trading, including those who will get stolen from by smarter people, you increase the capitalization of enterprise, growing enterprise for the overall good. I'm not sure that an increase in dumb money trading specifically is a boon for the creation of enterprise, but it's worth considering if there is actually a net positive. I'm sure someone has made the argument.
You said: "I'd always wondered how Schwab was able to cut their commissions to $0. I remember paying them $49.95 to buy or sell 100 shares in 1986 -- and it was a bargain. Put and call options were "cheap" at only $29.95 each. Now I know how."
If you think the answer is PFOF, then, no, you don't know how. Back in the '80s, when stocks traded in 1/8s, market maker profits and PFOF were much, much higher per share than they are today. If you want to understand why retail, discount brokerage is so much less expensive per trade, you need to look at the expenses per share executed. Interactive Brokers probably executes more volume today than the entire market traded in the 80s and it does it all with fewer than a 1,000 employees in the U.S. Exchange costs have declined, NSCC clearing fees have declined, automation has enabled brokers to drastically reduce manual processes and employees and electronic delivery has reduced statement and confirm costs.
I know. There are many factors. Schwab was once a discount broker with no financial advice services; now they offer many such money-making services. Also, simple price pressure from competitors played a big role over the years. And of course the difference in what they receive on cash deposits vs what they pay. And they offer their own funds and ETFs. There are many reasons. Most of the journey from $49.95 to $0 happened, in fact, before HFT was much of a thing.
My point is that I didn't even know this universe -- that Matt wrote about -- existed as it does. I had no idea just how much money was being made by this type of risk-free trading. And the ultimate arrival of the $0 commission, even at an long-established company like Schwab, is part of that story.
I actually dispute that transaction revenues (whether PFOF or commissions) even constitute that much money. They are not nothing, obviously, but the real money in retail brokerage is the net interest margin on free credit balances, debit balances and stock loan rehypothecation. Take a look at Schwab's income statement (page 57):
https://www.sec.gov/ix?doc=/Archives/edgar/data/316709/000031670920000012/schw-12312019x10k.htm
Schwab had $617MM of transaction revenue in 2019 and $6.5B of net interest revenue. Brokerage and custody are the services broker-dealers offer to attract deposits and loans. It's not that sexy of a story, not matter how some journalists try to sex it up with secretive HFT intrigue.
Remind me again how rehypothecation works? Isn't that where an institution takes my assets and lends them out as if the institution owns them?
Yes, but you're missing a critical part of that, which is that you owe them money. If you have an account with $11MM of stock in it, and a $1MM margin loan (so $10MM account equity), your broker-dealer is allowed to borrow up to $1.4MM of your stock. Your broker-dealer can then use that stock to secure a loan to itself, to lend to another customer to sell short or lend out to the street. The amount they borrow (or receive as cash collateral if they lend out), is a credit in the broker-dealer's customer reserve formula, so in the event the broker-dealer becomes insolvent, SIPC will have the funds in the reserve account necessary to repay that loan or terminate that stock borrow transaction and retrieve your securities. It's a relatively elegant system that respects the fact that there is really no difference between using customer A's cash to fund customer B's margin loan and using customer B's own securities to fund customer B's margin loan, by borrowing funds secured by customer B's securities or lending customer B's securities to a short seller for cash collateral.
As a person at an HFT I can confirm there is a fee on every transaction. It's how the exchanges make their money. They supply rebates for market making, but that requires a market maker to execute an agreed upon number of trades per cycle. If a firm doesn't meet their requirements, then all fees are due and they stand to lose a lot. I haven't personally read the details of any of the MM agreements my firm has been involved with, so I can't tell you if we were incentivized to post more orders on one side of a market or the other, but in my experience, it was pretty evenly distributed between buy and sell orders where we could pick and move our orders depending on what we thought the market would do, i.e. if there was upward pressure, we might keep bid at the limit price and sell orders a few ticks higher in hopes we'd get a few point winner to make a few dollars on the trade. The secret sauce is doing this thousands of times a day and getting a sweet rebate on the fees.
Maybe you mean other fees?
Or maybe increase the fee. My major objection is when you have traders making money with no risk, that means people taking the risk are making less (or losing) money. I recall some companies having (maybe still have) special permission to install on-site servers at an exchange so they could see orders and front-run them before they went through. We deserve better than that.
I get that market makers have to make a profit, but if you do that through visible commissions, retail investors (whether direct or through funds, ETFs, pensions) are aware of the transactional costs.
Matt! YES! My favorite reporting you do so very well! THIS is why I subscribed. This.
so many folks, just do not know, nor want to know, what's up.
There is ONLY ONE Industry across the entire globe: Finance
ALL other global "industries" are in fact, subsidiaries (owned and controlled) by Finance (Bankers)
in reality, there is no "Big Pharma", "Big Insurance", "Big Tech", "Big Weapons (MIC)", "Big Agriculture", etc etc. Now ADD "Big Water"
All those industries are controlled at the top, by a handful of straw man corporations. Monopoly.
The majority of "shareholders" across all industries, are in fact, just insider banksters. Predictable. When you have unlimited access to source credit issuance, then turning fiat credit into tangible industry and physical property, is a no brainer.
2010: A couple of Swiss data analysts built a DB of the 46,000 largest transnational corporations, and populated the tables with those companies c-suite and board members. the DATA, not theories, proved 97% of global (yes, including fake enemies like China and Russia) mega-corporations, are owned by the same few people.
Literally, total and complete monopoly.. of Everything. Of course, it's worse today, almost 10 years later
This is the link to the actual White Paper pdf, for any skeptics:
http://arxiv.org/PS_cache/arxiv/pdf/1107/1107.5728v2.pdf
our WORLD has already been monopolized. By who? Finance.
> proved 97% of global (yes, including fake enemies like China and Russia) mega-corporations, are owned by the same few people
Glattfelder's paper proves nothing of the sort. They did show that 80% of *control* (not ownership) is exerted by 737 corporations. These corporations are mostly banks and investment funds which control and invest their clients' money, but do not own it.
Are we reading the same paper? In addition, this is not a "white paper", it's an actual peer-reviewed academic paper.
this is a quality danish documentary (VPro) featuring Nanex's analysis of market feeds and such. a non biased, non partisan, educational view into HFT and "markets"
Documentary: Money & Speed: Inside the Black Box (VPRO Backlight)
https://www.youtube.com/watch?v=aq1Ln1UCoEU
Thanks for the insight! https://www.youtube.com/watch?v=xGn55BRyDSk
ah, my reliable old pal nick-ster. how's it going brother? living that dream today? *bro hug*
Just getting my temporarily embarrassed millionaire on. Hows it going over there?
living well, feeling good, thanks for asking
And in any case executives and board members are not "the owners" of any public company, ownership is usually highly dispersed with top holders being large funds like BlackRock.
Interesting article. If the service is free, then you are the product being sold.
Hey Matt,
Great piece! I work in Chicago at an HFT firm and know many people who work at the firms you mention and am quite familiar with all of the practices you described. I think you have done an exceptional job clearly distilling the general practices in a way that many insiders aren't able to do nor fully understand. I think your piece is a brilliant contrast to this hot mess NPR broadcast the other day: https://www.npr.org/2020/12/07/943768902/former-day-trader-warns-others-of-the-risk-of-addiction
I was not aware of Robinhood specifically working their order-flow through these firms, but I did know that Citadel and Wolverine were handling customer orders in their capacity as market makers. I think the general legality of the practice is correct and allows individuals to leverage the financial weight of these large corporations against the even larger ones, like JP Morgan and Goldman. I would assume there must be some speed and order priority gains versus going through a fund or brokerage account. I could be wrong, but it's quite likely that this is a valuable tool for individual investors and basic low-key traders. That said, it's exactly akin to sitting a bunch of fish at the Poker World Championship because it simply doesn't excuse a user from developing fairly deep knowledge of trading and investing. For any of your users interested in learning more, I suggest becoming acquainted with [investopedia](https://www.investopedia.com/) which got me through my first few years as an imposter in the industry.
> 'while HFT proponents insist their practices narrow spreads, some critics maintain that high-frequency trading ends up widening spreads. In Saluzzi’s book “Broken Markets,” for instance, he estimates that while spreads are narrower in “perhaps 5% of the most actively traded names,” they’re wider in “the other 95% of the market.”'
I think the issue might be that since the complete digitization of exchanges there is far more price discovery happening across products and yield curves. For instance, many, many people trade E-mini futures (S&P) and the market is extremely tight and liquid, but all the activity is in the first month of the contract. Similarly with oil and most commodities. It is far more difficult to guess the prices of these contracts in the future and historically, while they could be traded, no one was really interested. The goal is to try and discover what the price of a contract a year or more out on the curve (up to a decade in some cases) might be, and a well capitalized firm can start to put small orders on these contracts to see who else is interested and what they think is a fair price, make a good long-term bet and hopefully dial in on a better price as the contract nears it's expiration.
I think electronic trading has made this far more possible and profitable and so the greater activity in these contracts may appear like large price spreads opening up, but may in fact represent real bets on contracts previously unavailable or un-seeable, i.e. you're not seeing a widening price spreads, just more contracts with naturally wide spread. I'd be interested to hear more from the detractors to see if their notions of price mismatches is something other than what I've seen.
As for HFT and it's goodness or badness...well....I've thought long and hard about this. My own firm is like a fly on a whale carcass and has pretty much no effect on markets that I can deduce. We don't trade equities and we no longer make markets. It was impossible to hold the line against the bigger companies who can trade on billions of dollars worth of margin. That said, I'm not sure any individual has any business trading on the stock market without a real understanding of the fundamentals of investing. Trying to scalp for a few bucks here and there can be quite profitable but also wipe out an account and as you said in the article, the key is to make sure this is just funny money and not your kids college fund. In that sense Robinhood give people the ability to try stuff without the brokerage fees, the regulatory certifications, and other impediments, while benefitting from optimized NBBO and trading algos and the leverage of larger companies. I don't like the dopamine trap the app seems to promote, I can't believe they allow trading on margin at all, but I'm not sure it's worse than any of the other digital junk food people consume.
Thanks again!!!
Glad to see someone else point this out. Objectively, spreads are tighter (though the depth isn't large enough to support seamless large trades at the face-value bid/ask levels, ofc) and individuals are enabled to transact much more seamlessly with electronically made markets. That being said, Robinhood absolutely needs to have more attention focused on what it's enabling, which is something I've been arguing from a returns-based standpoint rather than an order flow standpoint.
Yeah, I think there might need need to be an extra layer of consumer safeguards, but I'm not familiar enough with the product to have any ideas what those might be.
Robinhood isn't a better mousetrap. It's a better baited mousetrap. Why use cheese when you can use crack?
It's all in the presentation folks
That old adage, "There's a sucker born every minute" has never been truer than what is going on here. How do you think that around 85% of all stock is owned by 10% of investors. The stock markets have sold these type of scams to uneducated small time investors for years because it like taking candy from a baby. .
You can't blame Bathsheba for David being a horndog king. The temptation is there. There are other venues, say, horserace betting, where you (supposedly) only have to be smarter than the other horserace bettors. My Dad looked around the track crowd and concluded that this was plausible. Didn't work out for him, which, as an intelligent, rational fellow, he could only attribute to...a years-long run of viciously bad luck.
Oh, left off my point...which was, if you look around Wall Street and see the quants, analysts and super-investors that are there (as opposed to the touts, grifters and drunks my Dad saw at the race track), you should be aware that you are going up against them and invest accordingly. Lest you too run into a "years-long run of vicious bad luck".
Well for starters, even in good times, most people dont save. They need that dopamine hit now! In good times most people also need to create a villain and a reason why they fail. Found yours https://www.youtube.com/watch?v=xGn55BRyDSk
My millennial kids sought my advice about investing. I warned them, as any parent should, that they will be - in essence - gambling. I gave the short 5 minute speech about manipulated markets, bull markets making people feel like genius investors, buy and hold, etc. Just like the sex talk as they entered adolescence, I believe it was my responsibility to give them this talk in their early adulthood.
fuckers. Always looking for a new, bigger, and better way to screw someone. There have to be other young people like him. I hope you scream this warning from the rooftops.
When money men looked for new ways to bait the hook, "youth" was the answer. What better way to sell a dog (uber, lyft, and a thousand others) than to sell it TO idiots (youth) BY idiots (youth)...
Bringing up China is always an invitation to get flamed, but I’ll do it anyway and see if anyone bites.
For anyone paying attention to Chinese financial markets, the Party has crunched down on all manner of IPO’s, wealth management companies, and other Chinese business people’s attempts to replicate the quick cash scenarios of our markets. This can be interpreted in several ways, but here’s a couple....
China was in thrall to everything about western markets until 2008. Previously, they were like the kids watching Robinhood wealth explode and wanting in on the action. Then, 2008, and it was the epiphany, that, you know, maybe Western ideas about markets aren’t so hot after all, and there began a decade + of restrictions and controls to prevent a flame out. This can also be interpreted as the Party looking to crush incentives of individuals to the government could control all things including their own blockchain based crypto currencies. OK, true enough, it could be and probably is.
There’s also the realization from many investors in China that the government was making sure that loose cannons were not desirable, and with confidence and coherency in the Chinese market at already insane unsustainable levels, maybe it was a good idea to put some clamps on all these financial innovators to prevent a 2008 type blowup in China.
Controls. Regulation. This is what Commies do and it crushes society. Or not. China seems to be doing great right now, and the future looks bright enough that one should invest in shades. I was in Wuhan for the great lockdown, saw how it works, and the storylines are always more interesting in the wan tedium representing USofA conventional media sources.
OK, all the China haters, pile on....
«China was in thrall to everything about western markets until 2008»
I think it is more political than that: the current party lines are "moderate prosperity" and "harmonious society", and the current party goal is to reduce poverty and inequality, rather than sing "laisser faire" and "enrichissez vous".
«The government was making sure that loose cannons were not desirable, and with confidence and coherency in the Chinese market at already insane unsustainable levels»
In particular the party is very worried about "social instability", and pyramid schemes, insane speculation, etc. have created protests, complaints, dislocations. My impression is that the party have chosen a more "german" route to further development than a reaganista/thatcherite "screw-everybody-else" route.
The difference is pretty much in the notion of "our own": in the USA and the UK most of the population are not "our own", that's reserved to the masters class (upper class) and in part to their trusties (the upper-middle class), the others are disposable servants (a mindset also popular in Old Dixie, or Brazil or Dubai today), in Germany or China most of the population are regarded as "our own", even if poorer rather than richer.
True.
Interesting perspectives. It was derivatives that triggered the 2008 crash.
«China seems to be doing great right now»
In order to get an impression, however romanticized, of how the asian economies are doing, I have been watching many asian TV series comedies (Viki and Netflix) and in particular chinese-mainland ones, and they depict amazingly high living standards for the "developed" part of China, in particular of course Shanghai, which is clearly becoming the centre of China and the world. I guess Zhu Rong-ji and his friends worked pretty well.
and the future looks bright enough that one should invest in shades.»
China has a lot of problems but the post-Mao leadership seems to have taken Singapore, Germany, Japan and to a lesser extent south Korea and Taiwan, as current models, and they seem well aware of those problems.
As to the future I really hope China does very, very well: there are so many chinese and among them so many brilliant and motivated people, there could be a real surge in science and technology and innovations coming from China
You are correct, and I share your hope. I love Shanghai, but spend most of my time out in the deep countryside of rural Hubei. While the standard of living is nothing anyone in America would be impressed with, I can say that in the last 10 years there has been a quantum leap in living standards, all new infrastructure, rural villages being electrified with vast solar arrays, wind farms, and everyone now has a new house instead of the old mud brick jobs, albeit these new houses are concrete boxes in a style that can only be described as a mish mash of concrete with Western influenced architectural decoration. IOW, people are vastly better now than they were 10 years ago, and compared to 20-30 years ago, it’s like almost unbelievable. And, expect an overwhelming surge in science and technology innovations coming out of China. I’ve been in the industrial parks and facilities. People here have no idea what’s coming. None. It all gets buried in idiotic MSM narratives and moronic political plays.
«People here have no idea what’s coming. None. It all gets buried in idiotic MSM narratives and moronic political plays.»
The narratives and plays are driven by people who know very well something big is coming from China. The fear is that if there is a single global economic system it will eventually be dominated by China.
The american plan which is entirely rational is to split the global economic system into a chinese and an american sphere of influence, as most countries would currently choose the american side as it is still the bigger one, which is unlikely to be the case later, resulting in a much smaller and isolated chinese sphere of influence.
*sigh* I hate to inject a bit of meta-analysis into all this well-informed and intelligent figgerin', but here goes:
If you think you can make any kind of linear projection and come up with an accurate prediction of "How things will be in 2040"...well, I think that is naive. Here's my more cynical projection: If they continue to centralize control, of the power and the wealth, even allowing a degree of 'trickle-down" to the masses, they will create an irresistible prize. China has always tended towards centralization of power, the success of which can be seen in their history, which, euphemistically, is "not unmarred by strife, conflict, war and rebellion".
IOW, the point of failure is not to be found in analysis of markets, but in human nature. People will backstab, lie and steal for a slight advancement in status or wealth. When you create the glittering prize of absolute power and near-unlimited wealth...well, you are motivating some extreme, even suicidal, behaviors to contend for it.
Almost guaranteed to break your well-informed and intelligent projections from the markets, I think.
OK, maybe. I wouldn’t describe anything I’ve seen thus far as “rational”, though. And, if there is an actual “plan”, I don’t see a single fucking thing that would bring that plan to actuality. IOW, there is no plan. Maybe a generally directed stumble, or a fumble where we recover the ball...but a plan? I don’t see no steenkin’ plan, anywhere.
While I myself have shouted myself dry about how "democratizing" markets really just means allowing individuals to lose their money at high rates, I feel like the focus of attention on high frequency trading and order flow is misleading. It is a common misconception about the trading industry, but allowing market makers to see order flow and execute usually leads to better prices for individuals to trade, and at the worst, getting the price you yourself specificy with a limit order - the spread a market maker makes is a fraction of the "cost" you'd be paying in the 1980-2000s for some banker to charge you an 1/8th or a 1/16th of a dollar to place your trade.
"Flash Boys" is also a highly misleading characterization of how markets work. Though Scott Locklin ( https://scottlocklin.wordpress.com/2014/04/04/michael-lewis-shilling-for-the-buyside/ ) castigates the book in a much better manner than I can articulate in a short comment, it is predominantly large funds and banks who benefit from "speed bumps", a concept that is pitched as "helping the little guy" when it really is meant to entrench banks back in the market-making industry, which they got ran out of by HFTs.
Individual market makers really don't make all that much money from order flow. Even in 2020, Robinhood will barely scratch 1 billion, if that, in revenue for selling order flow, and trading volume literally cannot get any higher from retail. I would estimate the total profit pool available from all market making activity across all firms (Virtu, one of the oldest and largest firms, only does 3 billion in revenue) at somewhere in the low 8-figures. Compare this to any asset management firm, (or even the Harvard Endowment fund!) where individual firms with a multiple billions will be taking in 9-11 figures in fees
I think Robinhood has the potential to erode the future wealth of a generation, but I suggest focusing more on the damage individuals are doing to their own returns and accounts absolutely destroying saving and wealth accumulation over time rather than directing your attention to the HFT industry, which, at the end of the day, is essentially just a service provider for functioning electronic markets.
Thanks Ven, your replies really help flesh out the scene for those not in the game.
My opinion: trading with fundamentals and long term holds require a faith not found in most churches. Large hedge funds (2 & 20) not worth it either. If you really want to have that nest egg in retirement, you will have to actively educate yourself on how markets work and look at statistical indicators in order to understand how a given issue is performing. Sometimes your best bet is to stay out of a market for a month rather than keep soaking in that $$ pool hoping to catch a wave that could end up crushing you.
Food for thought: imagine if we took even half of the money being sent to JP Morgan and Goldman (who famously referred to their clients as muppets to abuse) and invested that locally, how much more stable your area would be. Imagine if instead of paying Chase or CapOne 24% interest on your credit card, that you could only pay 10% to your neighbor. That's more than neighbor could make on most safe investments. Yes, I do know about the provisions for loss, admin, etc., but just imagine that money staying and helping local. Those large firms, who got bailed out repeatedly, are parasites on the average person. You may only feel a "mosquito bite" in impact, but you've metaphorically gotten financial malaria in the long run. I'm kinda rambling, but I think we do need to approach investment in new ways, because some of these old, greedy fin firms will crash and get bailed, and you won't.
Sorry, I meant low 11 figures. Teen billions at most across all HFT market making firms.
A couple questions if I may.
One, how many trading days of losses does Virtu have in 2020? 2019?
Two, if HFT provides market liquidity, where was it in March? Where is it today?
So I presume your first question relates to the fact that Virtu basically never loses money during a trading day. But this is not due to predatory behavior: at it's core, market making allows transactions to occur when there isn't necessarily a buyer matched to a seller. There has to be an other end of every transaction, but if we wanted to buy Ford stock and had to wait for someone to come along who wanted to get rid of theirs, you would see a lot less transacting on the market, and the prices that people might be willing to buy or sell it are in no way guaranteed to match. So all that Virtu is doing (and doing a good job of) when they make money day in day out is undercutting the people who want to buy stock, the people who want to sell stock, and the other firms trying to do the same thing to "win" the trade and pocket the difference.
As to your second question, I assume it relates to volatility and spreads (and liquidity) widening. Volatility is just uncertainty at the end of the day - when people do not know what is going on, they are more wary of transacting in markets. If there are less people "showing" that they are willing to transact, spreads will naturally widen. But a key concept of market making is that you want to take as little price risk as possible - remember, you want to pocket the spread between the buyer and seller, not take the price risk yourself. "HFT" is simply transacting from a buyer/seller to another as fast as possible. When neither buyers or sellers are showing willingness to trade, it is very hard to tighten a spread without taking massive risks. This is no different from whether it's an algorithm placing bids and asks or a human sourcing trades - the difference is algorithms are built seamlessly on top of billions of dollars of infrastructure, so they can undercut the human much more efficiently and in fact provide better prices than a human would manually be able to make in basically every single scenario.
I assume the next topic that will be brought up is the flash crash, but that was not a failure of market making algorithms, contrary to what it is normally pitched as, but rather order placement speculative algorithms messing with how ETFs are calculated as a conglomeration of their holdings, among other things.
You are correct. If you wake up every day and you know you are going to make money life is good. In your comment you contrast Virtu with others that may make more money, but they have significant market risk as we sit here today at ATHs. In the interest of readers there are two different dynamics to profitability - no risk or potentially lots of risk.
Proponents of HFT always mention the liquidity brought to the market by the firms. The liquidity "benefit" is a mirage.
Sure, lets see if Donald Trump will pardon Navinder Sarao. He would have my support.
In my experience, the place most easy to see the liquidity is the e-mini futures contract on CME, others may have better examples. But in this particular market there are so many participants that large orders won't move the market so much that individuals are going to get blown out by big moves. Of course, a downturn in the market will punish the market makers and they will pull their order and reduce liquidity, but those are the guys we want to take the brunt of the big moves. It's sort of understood that's the price they pay for the huge fee rebates they get and the money they make from the trading on small moves throughout a certain period.
From what I recall, there's a bit of this in pure equity market as well, at least in the large (say, top 500) companies. The idea is that there are enough participants and the price range is so tight, that no single large player can swing the price around. In practice, I don't know...maybe it's true, but who knows how long it will stay that way.
Great stuff, Matt, and important reporting. In follow up, I'd be really interested in more depth exploring how their practices compare to TD Ameritrade. I know that HFTs front run my orders that I place thorugh TDA and it bothers me, but I can only do so much to fight it. So is Robinhood exceptional or typical? Hard to tell so far but this is an important first story.
That's a good question. I've used Schwab, TDA and Robin Hood, and I haven't noticed a significant difference. Article even mentions that Schwab has some of the same practices.
So is Robin Hood uniquely 'bad'? Or is that just the norm for services that cater to retail investors?
Robinhood's distinction is that it makes that so much easier and so much more attractive for suckers (and most suckers don't know that they are suckers). As another commenter reminded us, "if the service is free you are the product", and in effect Robinhood sell access to their customers to Wall Street corporations, and Wall Street are not known for being charities.
Several commenters here seem to argue that the government should not interfere with the indefeasible rights of consenting suckers to be shafted by shysters, which sort of of confirms that is the business model of Robinhood.
"Robinhood's distinction is that it makes that so much easier and so much more attractive for suckers"
Maybe. But I don't see how this differs from a platform such as Think or Swim (TDA). Both have a very low bar for options trading and engage in the same activities mentioned in this article. ToS has more customization and can be more complicated if you want it to be, but does that make it somehow less evil? I'm not sure if there's a definitive argument for that.
As to "much easier and so much more attractive", another commenter on this article wrote as to how cool their cellphone app is:
“I've been using Robinhood to buy a few stocks/funds here and there and so far I have to say the user experience is far superior to anything else I've used.”
«But I don't see how this differs from a platform such as Think or Swim (TDA)»
Robinhood is not the first or only market-gambling app, there are even (in some countries) sites for spread-betting on stock movements, always looking for suckers. But so far Robinhood has been the "best" of them, in part because it is a particularly slick app for mobile phones, and so can reach a lot more suckers than stuffier desktop-flavored "legacy" ones.
https://play.google.com/store/search?q=stock%20trading&c=apps
Yes. Although if they cost you 5% versus 2.5% long term would you perceive it? Not clear to me. If you read Flash Boys the big funds thought they were losing 2.5%-3% by being front run for many years.
For all the doom and gloom I actually learnt a lot about stocks because of Robinhood. Then again I am working individual that only invests "extra" money.
«I am working individual that only invests "extra" money»
The kind of 1927-style speculation that Robinhood makes so easy is essentially entertainment, so as long as you like entertaining yourself that way it is fine. It is a bit like playing poker for cents.
More or less thats the way since i am only learning slowly about the market and what drives the price. A rule of thumb is to only invest in stocks that you use personally.
Good point. I've had people say they invest in companies whose products they like because it adds "rooting interest", like for their favored sportsball teams. As long as the money isn't a painful loss, seems fun and harmless.
Also: should be reserved for people who can correctly read their balance as presented in the app., ref: this tragic story, but that's out of the developers hands.
I'm sure it's designed to present info as clearly as possible.
Matt is a joke. This piece is ridiculous
Matt is one of the best journos out there.
A journalist would actually show proof that Robinhood makes people lose money
He is not calling for a cancellation shit. He is giving rational analysis on whats gng on.
Sorry, cancelation what? No, he's just repeating talking points. There's not rational analysis here, just some anecdotes, and the intimation of a dark motive.
@diane reynolds, there are documented issues with RH and other financial apps, not to mention every ecommerce site on the planet, that use dark patterns to drive behavior. Matt's piece uses the term "mousetrap" effectively, I think, in that yeah, you may get the cheese, but you're more likely to get your neck snapped.
From WIRED (https://www.wired.com/story/financial-apps-investing-dark-patterns/)
"Robinhood, the investing app, uses a gamified interface to make investing seem easier than it is, encouraging its users to trade frequently, which most personal finance experts do not recommend for long-term investing."
That dark, lazy characterization of a product that millions of people use as a first chance to participate in the capital markets is exactly what I'm criticizing. Easy to sit on the sidelines and criticize something that created an opportunity for millions of people. It is democratizing. Of course it also democratizes losing money, but that's personal responsibility.
Finance experts are probably correct, but there's a conflict of interest in their opinion. Of course they would prefer you handle your savings to them, for a fee.
FWIW I don't use RH, nor any financial planning or management app. I'm both financially literate and aware of my digital surroundings having been in the UX field professionally for many years.
I absolutely agree that it democratizes losing money which is why my initial comment on the article was "caveat emptor." There is nothing illegal about the firm or the app. But just as I wouldn't recommend learning how to drive a manual transmission in a Porsche 911 Carrera S, I wouldn't recommend RH for the financial novice.
LOL. Then why are you here?
I asked for a refund but didn't get one
@diane i'm glad you're on here. you bring valid arguments to the conversation, and demand that others do the same. i only wish andrew sullivan would update his substack to allow commenting ;-)
Her arguments don't seem valid to me. She's just oppositional.
Her point is simple - RH is a tool. Caveat emptor on using it. Does RH make certain types of investing "too easy"? Maybe. So what? I like using it for options trading but I also don't do leveraging. If you don't know what you're doing, you're going to crush yourself on RH. Like many things in life, unless you understand the risks you're taking before you take them, you're going to learn the hard way.
You must work for them.
Imagine. A service that lets common people make a buck out of the greatest transfer of wealth set forth by the Fed. Must be a bad thing. Only the rich should be allowed to get richer. WTF did I just read..
What goes up, must come down.
The other point is that Robinhood is essentially spyware, enabling the HFT's to front-run all that "dumb money."
We love to talk about inequity, and show plots of how the top 1% has gotten richer, while most of the population has not. We run stories on how Bezos and other billionaires added billions to their wealth during the pandemic. How do you think they do that? How do you think the 1% get richer, and have gotten richer, during this record-breaking bull market since 2008? They own equity. We might not own as much as they do, and we might not earn as much as they do, but to say that opening the doors to the 10, 25, or even 50% – or anyone that has a cell phone – access to take a tiny cut of that record-breaking profit, is not only stupid, it's criminal.
I'm more than willing to pay that HFT front-run tax on my trades. It's very small and acceptable.
Where is F Society when we need it! LOL