Financial advisors may be getting a few phone calls from concerned clients this week after a 60 Minutes report on CBS Sunday night asking whether the U.S. stock market is rigged.
The broadcast interviewed bestselling author Michael Lewis on his new book, Flash Boys, the story of three Wall Street professionals who independently discover how the market is rigged by high-frequency traders and band together to fight the exchanges exploiting ordinary investors. The book is also excerpted in today’s New York Times Magazine.
The book and the high-level media attention it’s getting has already provoked governmental reaction. The Securities and Exchange Commission says it is engaged in an “ongoing review,” and New York State’s attorney general, Eric Schneiderman, had this to say on Bloomberg Television this morning:
“There are some things here that may be illegal. There are some things that may now be legal that should be illegal or that the markets have to be changed. So part of what we’re doing here in addition to looking for illegality is shining a light on this area.”
For perspective on an issue that directly impacts all advisors and their clients, ThinkAdvisor reached out to Bob Seawright.
The chief investment officer of San Diego-based broker-dealer Madison Avenue Securities is one of the industry’s genuine thought leaders, a widely read blogger and a regular contributor to Research Magazine and ThinkAdvisor. True to form, Seawright, who has previously written on high-frequency trading, had seen the broadcast, read the book excerpt and said Lewis’ new book was expected in today’s mail.
ThinkAdvisor: Some commentators are saying there’s nothing new under the sun — the market has always been rigged to some extent so get over it.
Seawright: I understand that argument but I think it’s wrong because people in my position and our clients should be extremely unhappy with the various exchanges and the exchanges’ willingness to sell investors as a whole down the river for the sake of the trading volume created by the high-frequency people.
It’s a lot of cash in the exchanges’ pockets, and it’s cash coming out of the pockets of everybody else.
ThinkAdvisor: Should ordinary clients forgo investing?
Seawright: No. For the average mom and pop, it is costing a few cents a year; the biggest conglomerate investment houses stand to lose a lot more.
ThinkAdvisor: So in a sense, ordinary investors are barely harmed by this latest Wall Street scandal?
Seawright: That’s the insidious part of it. It’s not something that you readily see. You hit enter on your order and you get filled in part or filled at two different prices and the assumption always was, “Well, that’s where the market was.’
And the reality is that is where the market was, but the market was there because somebody stepped in between really, really fast.
For retail shops like ours it’s not a [significant] issue because our orders aren’t big enough that’s somebody’s going to step in front of them. If somebody’s buying 100 shares of something, there’s not enough money to be made stepping in front.
But when a client owns a mutual fund, and the mutual fund is trading shares, and somebody steps in front of that, it matters significantly to the portfolio as a whole, and by extension it matters to some extent to investors: 2 cents a share is a rounding error, and I get that.
On the other hand, the high-frequency trading firms are spending hundreds of millions of dollars to get another couple milliseconds of an advantage. Clearly it’s a real advantage to them, and that money’s coming from somewhere. That money is coming out of our clients, mutual fund clients and everybody else that’s involved in the market, and that ought to concern all of us.