Money Stuff

Spoofing, Cross-Selling and Bitcoin ETFs

Also analyst flattery, index funds and the future of work.


Here's how layering, or spoofing, works:

Layering trading is a special trading stratyge [sic]. For example, the bid and ask of symbol X is 90.09 and 90.14, we put buy orders in 90.10, 90.11, 90.12, 90.13 and so on, then push the price to 90.20, right now the bid and ask is 90.20 and 90.21, we put a big size short order in 90.20 to get a short position, then we cancel all of the buy orders in 90.10, 90.11, 90.12 and so on. And we put sell orders in 90.20, 90.19, 90.18, 90.17 and so on, to push the price to 90.05, then put a big size buy order in 90.05 to cover position, and cancel all of the sell orders .. so we will put hundre[d]s of orders to push stock price and then cancel them.

That's from the Securities and Exchange Commission's complaint in its case against Avalon FA Ltd., a Ukrainian trading firm that allegedly did a lot of layering. (The description is Avalon's, not the SEC's.) Avalon allegedly acted as an intermediary between "trade groups" (which actually did the layering) and a U.S. broker, and monitored the trade groups' activities to see if they were layering. Layering is illegal -- it's market manipulation -- but Avalon wasn't monitoring the trade groups to stop them from layering. It just wanted to make sure it got its cut:

Avalon and Fayyer closely monitored trading activity by its traders to ensure that Avalon collected higher fees for layering. For example, in April 2013, Fayyer emailed Avalon Trade Group Leader 2: "We know this business very well and we will see right away if you are layering. Even if it is dark pool layering, we know all these strategies."

"Layering is VERY expensive now, and we pay very big legal bills to protect this," wrote Avalon owner Nathan Fayyer in another email. "A lot of firms don't have this ability and kick traders out. We do." 

That's cute. But let's talk about the layering strategy. We have discussed the essential dumbness of spoofing before. The highest bid for stock X is $90.09; the lowest offer is $90.14. Avalon's traders bid higher than the best bid in the market -- $90.10, then $90.11, then $90.12, then $90.13 -- assuming that no one will want to sell them X at those prices. Other traders, seeing that Avalon is willing to pay more than anyone else, don't think "oh hey I should sell at the price they're bidding." Instead, they say "oh hey, if those guys are willing to pay more, then I should be willing to pay even more." So they start bidding $90.14, and $90.15, and so on up to $90.20, at which point Avalon sells to them at $90.20 and the whole process goes into reverse. 

That is not how economic activity normally works. If I have stuff to sell, and someone else wants to pay more than the prevailing price for it, then I should happily sell it and be on my way. I shouldn't say "wait, if this guy will pay so much for my stuff, I should instead be spending even more to buy more stuff." It doesn't make sense. That doesn't mean that it didn't work -- "Avalon's layering yielded profits of more than $21 million," says the SEC, over almost six years -- just that it shouldn't work. 

There's another strategy described in the SEC complaint, which the SEC calls "cross-market manipulation." The way this allegedly worked is that Avalon would buy some shares of stock X, which would push the stock price up. This would make put options on X less expensive. Avalon would then buy the put options. Then it would sell the shares it had bought, pushing the stock price down and making the put options more expensive. Then it would sell the puts. It would lose money on the stock, but make even more money on the options.

This shouldn't work either. Simplifying: If buying stock pushes up the price of the stock, then buying more puts should push up the price of the puts even more. There is no systematic reason to expect the market to overreact to your stock buying, but under-react to your put buying. There shouldn't be a free lunch. But, according to the SEC, it worked, and I have no real reason to doubt them except a lingering disappointed efficient-markets fundamentalism.

That is what offends me about cases like this. It shouldn't be this easy. The first line of defense against market manipulation isn't the SEC, or the exchange operators. The first line of defense against market manipulation is the market. You can manipulate the price of a stock (or related options) by buying the stock, but just moving the price doesn't help you: You have to sell the stock (or related options) to realize the benefit. If your buying pushes up the price, your selling should push it down, and after frictions and transaction costs you should lose money. There shouldn't be a perpetual-motion machine in the markets, a way to predictably and repeatedly make money without engaging in any economic activity. But that's what the SEC alleges here. It's upsetting. If the SEC is right, these guys didn't just violate the U.S. securities laws; they violated the laws of economics. 


Apparently Toronto-Dominion Bank is cooking up its own version of the Wells Fargo & Co. cross-selling scandal:

Hundreds of current and former TD Bank Group employees wrote to Go Public describing a pressure cooker environment they say is "poisoned," "stress inducing," "insane" and has "zero focus on ethics."  

Some employees admitted they broke the law, claiming they were desperate to earn points towards sales goals they have to reach every three months or risk being fired.


"I'm in survival mode now," says a teller who has worked at TD for more than 15 years, "because it's a choice between keeping my job and feeding my family … or doing what's right for the customer." 

TD disputes these characterizations: "While we have sales goals to help manage our business, we know that we will only succeed by doing the right thing for our customers."

When you go to a used car lot, or call the toll-free number in an infomercial, you have pretty clear expectations: Someone is going to try to sell you something. You prepare yourself mentally; you're on your guard against being suckered. A basic problem in the financial services industry is that it often involves selling things to people who don't think they're being sold things. The "fiduciary rule" fight is essentially about that: You go to a financial adviser for advice, and then you're surprised to find out that he's actually selling you high-fee mutual funds that pay him sales commissions.

Similarly at TD Bank, "when a customer keys in a PIN at the teller counter, a gold star lights up on the teller's computer screen, indicating that 'Advice Opportunities Exist.'" ("Advice" here, as in much of finance, means "sales.") You just went to the teller to withdraw some money or get a cashier's check or whatever, and now the helpful friendly person behind the counter is suggesting overdraft protection. You're not mentally prepared to resist. ("TD employees say elderly customers are a common target because they've grown to trust their tellers over the years.") Having tough sales targets for salespeople -- the essential sin at Wells Fargo, and apparently at TD Bank -- is normal. The problem comes when you call your salespeople "tellers," and your customers don't quite realize that they're salespeople.

No WinkleTF!

Remind me why anyone would need a bitcoin exchange-traded fund? If you're a retail investor and you want to own oil, it is hard. Actual oil is a pain to store; you can't just chuck it in a closet. You can buy oil futures, but eventually those expire, and you have to remember to roll them forward or you'll end up with the actual oil. An oil ETF lets you push one button on your computer and "own" a quantity of oil, purely electronically.

Similarly, if you're a retail investor and you want to own the Standard & Poor's 500 Index, it is hard. You have to push 500 buttons to buy 500 different stocks, plus you have to get all the proportions right, and what do you do with fractional shares? An S&P 500 ETF lets you push one button on your computer and "own" the index.

But, look. If you're a retail investor and you want to own bitcoin, then one of the following two things is true:

  1. You can just do it. Bitcoin is an electronic asset. You can buy it on your computer. It doesn't expire. You don't have to store it. Just buy bitcoins. 
  2. You can't just do it. It's super hard. You have to buy the bitcoins from a weird exchange, and all the exchanges are constantly getting hacked or shut down for money laundering or both.

I would like to hope that number 1 is true, but I confess that back when I considered buying some bitcoin, just reading about the procedures made me very tired, and I never ended up doing it. So maybe number 2 is true. But if that's the case -- if normal people just can't buy bitcoins -- then that is not a particularly strong endorsement of its value as a currency. If it's impossible to use, then why would anyone want to use it? In this, it is different from oil, or the S&P 500, whose value does not derive from their transactional usefulness to ordinary people.

So if bitcoin is hard to buy, you probably don't want to buy it in ETF form. And if it's easy to buy, you don't need to buy it in ETF form. There's a reason that no one has invented a "euro ETF" that just buys euros and chucks them in a vault. 

But someone invented a "bitcoin ETF" that just buys bitcoins and chucks them in a metaphorical vault, and it was Tyler and Cameron Winklevoss, and on Friday the Securities and Exchange Commission disapproved their application to list their ETF due to "concerns about the potential for fraudulent or manipulative acts and practices" in the bitcoin market. The SEC's concern is that the major bitcoin markets are unregulated, and there's no one monitoring them for manipulation and abuse, so someone could easily manipulate bitcoin prices in a way that would affect the prices of the bitcoin ETF:

With respect to spot bitcoin trading outside the United States, the information in the Exchange’s proposal and from commenters demonstrates that the bulk of bitcoin trading occurs in non-U.S. markets where there is little to no regulation governing trading, and thus no meaningful governmental market oversight designed to detect and deter fraudulent and manipulative activity. The Exchange notes in its comment letter that only a minority of the global spot bitcoin exchanges are subject to any regulatory regime. 

This strikes me as a somewhat strange complaint. Most markets for most commodities are "unregulated," in the sense that there's no central authority monitoring trades and setting the rules for how prices are made. There's no central regulator monitoring every time a farmer sells soybeans. There are regulators examining soybean futures transactions, sure, but those are just derivatives of the underlying commodity transactions. Also part of the point of the Winklevoss ETF was to create a regulated market. Here's a statement from Jerry Brito, the executive director of the Coin Center:

“The Winklevoss ETF proposal was rejected because the SEC found that the significant markets for Bitcoin tend to be unregulated overseas markets that are potentially subject to price manipulation. But this creates a chicken and egg problem. How do we develop well-capitalized and regulated markets in the U.S. and Europe if financial innovators aren’t allowed to bring products to market that grow domestic demand for digital currencies like Bitcoin?”

Once you have the ETF, you have market makers and authorized participants trading it, and arbitraging it against the price of bitcoin. Institutional money gets involved. Then the market makers and institutions have an investment in making sure that the price of bitcoin is right: They demand better exchanges and regulation, they complain about manipulation, etc. Eventually things get better.

But I can sympathize with the SEC. The bitcoin ETF probably would help to make the world of bitcoin a bit less scruffy and more stable. But that's not the SEC's job. The SEC's job is to protect investors from being swindled while the market remains scruffy, and it's hard to argue with its conclusion that that's still the case.

Great quarter, guys.

Jason Zweig writes about a study finding that stock analysts are pretty cordial on earnings calls:

Analyzing more than 16,000 earnings conference calls from almost 500 companies between early 2003 and the middle of 2013, the researchers found that analysts spoke the phrase “great quarter” roughly 3,000 times. They said “good,” “great” or “strong” more than 215,000 times.

That's about one "great quarter" every five or so calls, which is ... way less than I would have expected? To be fair, you have the financial crisis in the middle of that period. If your model of sell-side equity research is that it's essentially about helping clients get access to corporate managers, then this makes total sense. Why not be polite? "Because groveling to management seems to help analysts secure what’s called 'corporate access,'" writes Zweig, "it’s no wonder that many analysts come across as bootlicking sycophants."

The interesting point is that Securities and Exchange Commission rules require analysts to mean what they say, when they write research reports: If you think clients should sell a stock, you can't call it a Buy, even if doing so will help you get clients meetings with the company's managers. But no rule that I'm aware of requires you to mean what you say in your casual pre-question buttering-up of management. You can go ahead and say "great quarter, guys," even if you think the quarter was mediocre, or bad. It's free flattery, whereas flattering executives in your research report itself is dangerous.

Should index funds be illegal?

No, say law professors Edward Rock and Daniel Rubinfeld:

Can common ownership in concentrated markets have anti-competitive effects? Absolutely. Is there compelling evidence that common ownership by diversified institutional investors currently has anti-competitive effects? Do the existing holdings by diversified institutional investors in concentrated markets violate Section 7 of the Clayton Act? Should such investors be forced to hold only one firm in any concentrated industry? No. In this article, we have considered the antitrust attack on widely diversified institutional investor ownership and found it lacking. 

Still, they are open to the idea that the law should respond to the rise in common ownership of multiple firms by the same institutional investors, and they recommend an antitrust "'safe harbor' for investors who hold 15% or less, who do not have board representation, and who engage in no more than 'normal' corporate governance activities." Figuring out what are "normal corporate governance activities," and deciding whether they are or aren't an antitrust problem, seems like a useful project for antitrust law.

The future of work.

We talked on Friday about JPMorgan Chase & Co.'s plans for roving never-ending performance reviews, and I joked that "pretty soon, the computers will do all of the economic activity, and we'll just sit around evaluating each other." But a Twitter conversation reminded me that that closely tracks this hypothesis about a post-scarcity future from Manu Saadia:

Instead of working to become more wealthy, you work to increase your reputation. You work to increase your prestige. You want to be the best captain or the best scientist in the entire galaxy. And many other people are working to do that, as well. It's very meritocratic, similar to my friends who are mathematicians or scientists. And it's extremely hard.

The nature of work is no longer tied to conspicuous consumption, or the necessity to actually feed yourself or to make money. Work has become something that allows you to increase your reputation, or your reputational capital. That's how it's depicted in the series.

Oh right -- "in the series." He's discussing his book about the economics of "Star Trek," but it might as well be JPMorgan or Bridgewater Associates. In a sense, a lot of the financial industry has already achieved post-scarcity economics. Nobody works at Bridgewater for decades because they need the money. Their motivation has to come from somewhere else. The feeling of being constantly evaluated might work.

People are worried about unicorns.

One thing that I sometimes think about Uber Technologies Inc. is: How hard can it be to make a ride-hailing app? It is not all that capital-intensive. The algorithm (find car near person, send car to person) seems fairly straightforward. How deep is Uber's moat, if it is just a matching engine? That worry is presumably what drives Uber's push into self-driving cars. But maybe it's wrong:

Startups Fasten and RideAustin saw South by Southwest, the annual technology, film and media gathering in Austin, Texas, as their biggest test since they replaced Lyft and Uber as the city's predominant ride-hailing services last May.

Neither one got high marks on Saturday night. Drivers and passengers complained that the apps were down for an hour or two, just as partygoers were trying to move from one place to another on a rainy evening.

Yeah, you really have to get SXSW right, if you are going to be a ride-hailing startup. Otherwise you are embarrassing yourself in front of the entire herd of unicorns. Elsewhere: "Stationary Bike Startup Peloton Seeks Unicorn Valuation." 

Things happen.

Trump Fires Wall Street Enforcer Bharara After He Refused to Quit. Preet Bharara’s Probes Likely to Continue After His Exit. Jesse Eisinger on Preet Bharara. Iceland Will Lift Remaining Capital Controls in Place Since 2008 Crash. Your Pension Check May Soon Be Coming From an Insurance Company. HSBC Names Mark Tucker to be First Outsider as Chairman. China Fines Repeat Offender $170 Million for Stock Manipulation. Singapore Bans Ex-Goldman Banker Leissner, Seeks Bar on Others. Fed Seeks to Ban 2 Former J.P. Morgan Executives Over Hiring Program. Unintended consequences: specialising in risky mortgages under Basel II. For-Profit Schools: Trump Delays Enforcing New Rules, Lifting Shares. This Banker Emerged From the Collapse a Billionaire Hero. Scaramucci could get slammed with taxes if he doesn’t land White House gig. Breaking Down the Father on BBC Being Interrupted by His Children. White men ‘endangered species’ on UK boards, warns Tesco chairman. Caviar-infused vodka. Can you be charged with murder for killing a mannequin?

If you'd like to get Money Stuff in handy email form, right in your inbox, please subscribe at this link. Thanks! 

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

    To contact the author of this story:
    Matt Levine at

    To contact the editor responsible for this story:
    James Greiff at

    Before it's here, it's on the Bloomberg Terminal.