Our financial system is crumbling this week.

[pioneer98]

The Trillions of Dollars U.S. Companies Are Hoarding Overseas

According to a new report from ISI Research, U.S. S&P 500 companies now have $1.9 trillion parked outside the country. Now, some of that is just multinational corporations profits overseas—yada, yada, yada, globalization. But a big part of it is tax avoidance. Tech and healthcare companies in particular have created byzantine systems of subsidiaries to channel earnings from high-tax to low-tax jurisdictions. Apple, as you might recall, figured out how to legally avoid paying any corporate income tax anywhere on its $30 billion of overseas profits. It set up Schrödinger's shell company: an Irish subsidiary that didn't owe Irish taxes because it was managed and controlled from the U.S., but didn't owe U.S. taxes because it was incorporated abroad.

[pioneer98]

Anyone else read Flash Boys yet? I'm halfway through it. Some stuff I've read:

[SHOW]

When they were building the fiber optic line from Chicago to New Jersey so they could complete trades a few milliseconds faster, it was obvious they were screwing someone but I didn't know who or how. It's pretty crazy how simple and straightforward they were screwing people. A trader somewhere would click "Buy" and it would send an order to all the different exchanges (there were 13 at the time). The order would get to the BATS exchange first, then it would arrive at the others a few milliseconds later. BATS often would not have enough shares to fill the entire order. At that point all the computers could see the order. They'd all quickly go to the other exchanges, buy all the shares to jack up the price, and then sell it to the slowpokes who placed the original order. Do this over and over again and you can skim billions from the market. There were Wall Street firms that literally had 1 day in 3 years where they lost money, and that was only due to a glitch.

It got so crazy that these firms were fighting for the closest spot to the Wall Street servers within the same room - like they wanted their fiber cable to be 9 feet shorter than their competitor's cable. Microswitches were re-engineered because 150 microseconds to switch was too slow - they got it down to 1.6 microseconds. When the fiber line between Chicago and New Jersey opened, they were asking $10.6 million for access to it. One firm came back and asked them to double their price because they wanted it for themselves.

All of this was kept totally in the dark, but someone at the Royal Bank of Canada figured out what was going on. He wrote a software program that would build in delays when they placed an order so that the orders would all arrive at the exchanges the same time. Then they tried selling this technology to people.

To get in on the action, the big Wall Street banks started "dark pools". This is where people who didn't want to get skimmed went (or so they thought). The order could sit in a dark pool until they found a buyer who also wanted to buy through a dark pool. It took no time at all for the big banks to realize they could sell access to the dark pools and throw these "customers" to the sharks, too.

[AWvsCBsteeeerike3]

I think 60 mintes did a story on this with the guy from Bank of Canada that figured it out and started up an exchange. Anyway, people will get all pissy reading it, but it's really not a huge hit to investors/traders. Maybe a couple pennies on hundreds of dollars.

But, yeah, the entire thing should be illegal and probably will be before too long.

They're essentially acting as unsolicited middlemen with no risk.

[pioneer98]

Here is an article about the main guy in the book:
The flash boy: Brad Katsuyama on Wall Street scandals and the morality of money

Most notably, Katsuyama was involved in a blazing row on live television with William O’Brien, the president of stock exchange BATS Global Market. Having left RBC, Katsuyama last year launched his own market venue, IEX, designed to remove the negative aspects of high-frequency trading, and an animated O’Brien attacked the book as a “300-page commercial” for the firm.

Katsuyama took a while to respond to the tirade but eventually fought back: “I believe the markets are rigged, and I also think that you’re a part of the rigging. So if you want to do this, let’s do this.”

BURN

[pioneer98]

I think 60 mintes did a story on this with the guy from Bank of Canada that figured it out and started up an exchange. Anyway, people will get all pissy reading it, but it's really not a huge hit to investors/traders. Maybe a couple pennies on hundreds of dollars.

But, yeah, the entire thing should be illegal and probably will be before too long.

They're essentially acting as unsolicited middlemen with no risk.

It's pennies on hundreds of dollars...but to big places like Vanguard or Fidelity who are buying hundreds of thousands of shares it costs them a fortune. Add it up over our whole society and it acts like a hidden tax on all of our retirement funds. Stuff exactly like this is one reason people don't retire any more.

Also, I haven't gotten the full explanation of the "flash crash" of 2010 yet. But these high-frequency traders caused a meltdown bad enough that trading was suspended.

[Arthur Dent]

It's pennies on hundreds of dollars...but to big places like Vanguard or Fidelity who are buying hundreds of thousands of shares it costs them a fortune. Add it up over our whole society and it acts like a hidden tax on all of our retirement funds. Stuff exactly like this is one reason people don't retire any more.

It has almost no impact on people with regular retirement accounts. The amount you will pay through ordinary mutual fund expense ratios and trading commissions utterly dwarfs anything that might be skimmed by front running HFTers, which is really only an issue for huge investors pulling giant trades anyway.

I think that HFT, like pretty everything that happens on Wall Street, is a giant waste of resources and a tool that empowers a tiny group of people to extract a lot of money while providing nothing of value (probably negative value, in fact). But stuff like this seems to imply that if you eliminated certain "cheaters", Wall Street would be fair. Nothing could be further from the truth.

Felix Salmon:

http://www.slate.com/articles/business/ ... iewed.html

[...]

But for Lewis’ purposes, the banks and the HFT upstarts all have to wear black hats, while IEX and a few noble others fight for … well, for whom?

The answer, if Lewis is honest, is very rich investors. Flash Boys begins with Katsuyama working as a highly paid stock trader for a huge Canadian bank, putting through orders worth millions of dollars for the bank’s biggest clients. It ends with Katsuyama setting up his own stock exchange, bankrolled by the likes of David Einhorn, Bill Ackman, and Dan Loeb—all of them billionaire hedge fund managers extracting mind-boggling fees from their hugely wealthy clients—and all of them much richer than anybody who made his fortune in HFT. Hedge funds, still, are the place to make more money than God.

When 80 percent of the money in the U.S. stock market is owned by just 10 percent of the U.S. population, how is Lewis going to find a sympathetic victim? The answer is by pulling out every rhetorical device he can muster. He describes a fiber-optic cable running from Chicago to New York as “a living creature, a subterranean reptile.” He says that “what people saw when they looked at the U.S. stock market—the numbers on the screens of the professional traders, the ticker tape running across the bottom of the CNBC screen—was an illusion.” He pities “the average investor” with “his TD Ameritrade or E*Trade or Schwab account,” who should “think twice” before placing an order. He says that “slow-footed individual investors” are “easy kill” for high-frequency traders.

[...]

Schwall tells Lewis that HFT is “ripping off the retirement savings of the entire country through systematic fraud,” and Lewis just allows the quote to sit there, damningly, even if he would never come out and put it that way himself. After all, the fact of the matter is that of all the various actors screwing your mom and pop out of the money in their retirement account, high-frequency traders are at the very bottom of the list. If, that is, they’re on the list at all.

[...]

Retail investors don’t run into this problem. If they see a stock available for $50.00, they can buy it at $50.00—not $50.01 or anything higher. They get exactly what they want, at exactly the price they want, which is also the best price in the market, and they get it immediately, in a way that makes big investors rather jealous. (Which raises one of my factual quibbles with the book: On Page 78, Lewis says that a retail order was filled “at a higher price than originally listed”; I don’t believe it. I believe that the stock-market price rose as soon as the retail order was placed; I don’t believe that the retail order itself got front-run.)

If your mom or your pop buys or sells a stock, that order will almost certainly never make its way to any stock exchange: It will be filled by a high-frequency trading shop that is happy to pay good money for the privilege of doing so. The high-frequency traders do make money from the retail investors—but mainly they do so the old-fashioned way, just by being on the right side of the trade.

If an HFT shop simply fills every single retail order at the best price in the market, then over the course of a day, and certainly over the course of a year, it will make a decent profit. Retail investors, in aggregate, are dumb money: If you take the opposite side of their trades, you’re going to do just fine. Especially when you also buy stock off them for a penny or two less than you will sell the same stock to them. That’s called NBBO—the national best bid/offer—and it simply reflects the fact that there’s always a small gap between the highest price that someone is willing to buy, and the lowest price that someone is willing to sell.

That’s why HFTs love to give retail investors what they want: It turns out that retail investors are very good at making very bad decisions all on their own. What’s more, if you’re an HFT seeing what retail is doing at any given moment, you can use that information to inform your stock-market trades elsewhere. So mom and pop end up making you a lot of money, without your ripping them off in the slightest.

[...]

But there’s always going to be a nonzero “round-trip cost” to buying $100,000 of a stock and then selling it a few seconds later. And it was not so long ago that $40 would be a veritable bargain for such a trade. Gates has good reason to feel preyed upon, given the way the market is supposed to work. But still, $40 for two $100,000 trades is hardly a rip-off. Especially when you consider the money that Gates himself is charging his 35,000 mom-and-pop customers.

When Gates was running his experiments, his flagship fund, the TFS Market Neutral Fund, had an expense ratio of 2.41 percent: For every, say, $100,000 you had invested in the fund, you would pay Gates and his colleagues a fee of $2,410 per year. That helps puts the tenth of a cent you might lose on Gates’ Chipotle test into a certain amount of perspective. TFS trades frequently, but even so, any profits that HFT algos might be making off its trades are surely a tiny fraction of the fees that TFS charges its own investors.

[...]

[pioneer98]

I think that HFT, like pretty everything that happens on Wall Street, is a giant waste of resources and a tool that empowers a tiny group of people to extract a lot of money while providing nothing of value (probably negative value, in fact). But stuff like this seems to imply that if you eliminated certain "cheaters", Wall Street would be fair. Nothing could be further from the truth.

Well, there is a reason these guys flew under the radar for so long. They didn't want people to be discovered because they were screwing people. So maybe the people they were mostly screwing were very wealthy people, or wealthy institutions. OK. Why does that make it less wrong again?

The bigger problem was my 2nd point...Whenever we have things going on in the darkness involving billions of dollars at the heart of our financial system, it can put the whole system at risk. When that happens, we can all get screwed as we have witnessed. So maybe Lewis is just a really good liar himself, good at pushing the right buttons of the public and exposing things in a way to get attention. Well, the guys up on Wall Street don't play fair, either, so maybe he is just beating them at their own game?

So maybe Lewis' take on this has something to be desired, but I'm still glad this stuff is being shown the light of day. There is really no harm that can come from exposing it for the average person. If some sensationalism from a reporter or an author helps delay the next bailout then I say, be sensational. Our politicians aren't going to do anything unless prodded with a sharp stick like this, and then they still won't do enough.

[Arthur Dent]

Well, there is a reason these guys flew under the radar for so long. They didn't want people to be discovered because they were screwing people. So maybe the people they were mostly screwing were very wealthy people, or wealthy institutions. OK. Why does that make it less wrong again?

It is wrong, though super rich people not making as much money as they could from their giant wealth because some other rich people created a really complicated way to take a cut of their speculative transactions is a much less compelling story. The business world is absolutely filled with people taking a cut for being useless or charging way more than can possibly be justified for what is provided, and finance is certainly an expert player in that field.

The bigger problem was my 2nd point...Whenever we have things going on in the darkness involving billions of dollars at the heart of our financial system, it can put the whole system at risk. When that happens, we can all get screwed as we have witnessed. So maybe Lewis is just a really good liar himself, good at pushing the right buttons of the public and exposing things in a way to get attention. Well, the guys up on Wall Street don't play fair, either, so maybe he is just beating them at their own game?

So maybe Lewis' take on this has something to be desired, but I'm still glad this stuff is being shown the light of day. There is really no harm that can come from exposing it for the average person. If some sensationalism from a reporter or an author helps delay the next bailout then I say, be sensational. Our politicians aren't going to do anything unless prodded with a sharp stick like this, and then they still won't do enough.

Well, sure. I'm all for exposing Wall Street's shenanigans. I just don't think that HFT front running matters much to the average person's retirement savings. The story of the incredible decline in the retirement prospects of so many Americans is really one about the loss of private sector pensions, as well as insecure and scarce employment and stagnant wages. That isn't to say that much HFT is not a scam, but it's just one of many in the sea of Wall Street activities that are not particularly productive or well designed but still allow their operators to take in outrageous returns.

[Mary1966]

[/youtube]

A Catholic priest talks about an article blaming the prosperity gospel for the crash. Stupid people investing stupidly in the expectation that God will make them rich.

[Mary1966]

The new face of poverty, as some things get really cheap while other things get more expensive:

http://www.slate.com/blogs/moneybox/201 ... _long.html