Rigging

Full disclosure: I have owned the NASDAQ stock market’s common stock for a number of years

First a short story … when I was much younger working for a bank which did mutual fund clearing, the following gambit came to light. Apparently a computer whiz who had written a program for resolving mutual fund purchases had devised a scheme to divert fractions of cents (which would normally be rounded down in such transactions) into a special account over which he had control.  What was interesting was that this scheme did not violate the balancing audits for this program … nor did any particular mutual-fund purchaser suffer as a consequence. Over the months this whiz’s special account accumulated a sizable amount of money that this programmer could then withdraw at will. (He was eventually caught and prosecuted.)

I tell this story because it is analogous to the dust-up that is now underway regarding the “rigging” of the stock market as a result of the new book, Flash Boys, written by Michael Lewis … see: Reuters Article. Basically, this book makes the valid claim that electronic stock trading has enabled big investment banks to connect electronically to the stock exchanges computers and take microsecond advantage of trading patterns ("front-ending") to pull fractions of a cent per share profits on trades.  These small fractions when multiplied by the huge volumes of shares involved can generate large profits for these investment banks.  This Mr. Lewis claims is rigging the market … and I agree.

This process is not currently illegal and, in truth, is abetted by all the stock exchanges … which are now even allowing investment-bank stock traders to move their arbitrage computers closer to their stock exchanges’ trading computers so as to decrease even further the trading lags due to communication transmission delays (even at close to the speed of light). All this technology one-upmanship really doesn’t punish normal long-term stock purchasers … but it does grab profits from investment banks whose computers might be slightly slower or further away than their competitors. Yes, the public might pay a very small fraction of a cent more per share on their purchases … but not really noticeable given the small unit volumes involved.

This kerfuffle is causing consternation and lots of comment by the talking heads on cable TV … and, yes, putting pressure on the stocks of the stock exchanges. However, there is, I believe, an even bigger scandal waiting to break some day. That is, that there is a growing “dark pool" market for stocks.  This means that bank A contacts investment bank B and sells them a million shares of company Z at an agreed upon price … without this transaction ever being printed on a public stock exchange for all to see. This I contend gives these institutions much larger information leverage than is available to the general public. I believe that these transactions should be forced to be somehow disclosed to the smaller investors … to put them on an equal footing with the big institutions.

So we see, it can pay to be on the in on Wall Street ... where such questionable practices are winked at ...