Hillary Clinton finally succeeded in getting folks who follow her campaign to talk about computers that do things other than handle her e-mail.
The Democratic presidential front-runner just did a cannonball into the raucous pool party that is the debate over the modern stock market, proposing a tax on those high-frequency-trading flash boys who cancel their orders to buy and sell too frequently. It’s part of a sweeping package of plans to reform Wall Street.
How often do the flash boys cancel orders, you may ask? The SEC gave some pretty good color on that topic recently when it busted Latour Trading for sending orders that violated rules due to a coding mishap. Latour, which handled in the neighborhood of 9 percent of the volume in the stock market in the past five years, sent about 233 million orders on average per month with only 7 percent being executed at least partially, according to SEC.
So, sure, that is a heck of a lot of orders -- like more than 10 million a day, just from one firm. And for every order that was filled, there were something like 13 that weren’t. It’s hard to say if that’s above or below the flash-boy batting average, but it gives a general idea.
It’s easy to jump to conclusions here. Why, pray tell, do the flash boys cancel so many orders? Clearly they must be putting out bogus orders as some sort of tomfoolery to trick suckers into selling lower or buying higher than they should, right? Well, yes, there maybe/probably are traders who are guilty of that from time to time. The government is going after such "spoofers" pretty aggressively already, as the case against alleged 2010 flash-crash villain Nav Sarao and today’s SEC charges against Briargate Trading show.
But it’s also easy to see how canceled orders can pile up quickly amid above-board trading due to the complexity of a modern, fast-moving marketplace. Flash boys navigate through 11 official exchanges and dozens of alternative trading venues with a variety of pricing and rebate programs, executing complex market-making and arbitrage strategies.
According to Clinton’s plan released Thursday afternoon, high-speed trading has enabled unfair and abusive tactics, and her proposed tax on excessive levels of canceled orders is meant to curb these strategies. There is some truth to that -- fast computers certainly offer new ways to pull off old tricks. But while the institutional investors who sit on our nest eggs like to fixate on the flies in the ointment of the modern market, it’s clear they mostly prefer the flash boys to the good ol’ boys who used to handle their orders in the pits. (HFT public defender Remco Lenterman has provided a nice bibliography for this topic on his Twitter feed if you’re interested in further reading.)
It’s a tough sell that a tax on canceled orders will make things better. It most certainly will add costs to the process of making markets that will be passed on to investors, and it’s hard to see how it would help increase liquidity during volatile times when it’s most needed.
Any new attempts to reform the market need to be studied very carefully and shouldn’t, as the HFT gadflies at Themis Trading put it, just follow "the Washington Insider Sound Bite Playbook."
The last major overhaul was in 2007 with Reg NMS, the well-intentioned rules meant to bolster competitiveness in stock trading. Unfortunately, those regulations are now widely blamed for turning the market into the 60-headed monster we have now.
So Hillary Clinton needs to show some hard data and evidence that this tax will help -- and prove it’s not just an attempt to throw stones at the populist bogeyman du jour.