In a company statement High-frequency trading is a growing cancer that needs to be addressed Charles Schwab and Walt Bettinger write:

As we noted in an opinion piece in the Wall Street Journal last summer, high-frequency trading has run amok and is corrupting our capital market system by creating an unleveled playing field for individual investors and driving the wrong incentives for our commodity and equities exchanges. The primary principle behind our markets has always been that no one should carry an unfair advantage. That simple but fundamental principle is being broken.

High-frequency traders are gaming the system, reaping billions in the process and undermining investor confidence in the fairness of the markets,” they write. “It’s a growing cancer and needs to be addressed. If confidence erodes further, the fuel of our free-enterprise system, capital formation, is at risk.

The integrity of the markets is at the heart of our economy. High-frequency trading undermines that integrity and causes the market to lose credibility and investors to lose trust. This hurts our economy and country. It is time to treat the cancer aggressively.

Three issues covered here at RPD spring to mind:

  1. The impact of efficiency of market (places) on collaborability,
  2. Our societal relationship with technology and
  3. Decision making is shifting from humans to computers.

1) The impact of efficiency of market (places) on collaborability

In a post from June last year Trading with the speed of light: is it desirable? I indicated:

The efficiency of exchanges has been a driver for our ability to collaborate; to balance supply and demand, to mitigate different risk profiles and future outlooks for the participants. The ability to have markets respond as quickly as possible to changing circumstances is part of markets becoming more efficient. It now seems that we have to nuance “as quickly as possible” – as in “instant” – to “as quickly as possible provided preventing externalities caused by the speed of decision making and trading itself”.

The “haves” have a vast advantage over the have-nots. High-frequency trading centres around the technical ability to react/trade literally in a split of a second and the quality of the connections / computers / programs / algorithms / data used. There is fierce competition between the high-frequency traders amongst each other to improve on any one of the mentioned qualities used.

As a group the high-frequency traders are competing with all others who do not have the same abilities. This results in less efficiency in the market for the have-nots which comprises the vast majority of traders. Reduced efficiency of markets directly influences the efficiency of exchange which is directly linked to our shared potential to collaborate (i.e. collaborability)

At least in the short term the impact of high frequency trading on the efficiency of markets is negative for collaborability.

NB High-frequency trading brings its own dangers e.g. flash crashes (see: Systemic Vulnerability due to software based decision making). These dangers are to be considered externalities and therefore also reduce collaborability.

2) Our relation with technology

I devoted an article to Is technology governing us or are we governing technology?. My take is that we have a large and proven capability to govern technology.

Many questions abound:

  1. Are we going to curb high frequency practices – i.e. technology – with regulations?
  2. Are we able to curb this type of technology both technically as well as politically with regulations?
  3. Will we (be able to) adapt our markets to this new reality in a meaningful way?

In practical terms the solution will not be to regulate high frequency trading, for this is technically and politically difficult to achieve in a multi national environment, but the solution is to make it available to all. (NB to be honest, I do not even have the start of an idea how this should be established.) (update 17 April 2014: From the sights of it at least in the EU regulations are forthcoming. Via Finextra: Members European Parlement vote to curb high-frequency trading.)

The main question: will we be able to democratise computer (aided) trading so the imbalance between the haves and the have-nots is corrected?

3) Decision making shifting from humans to computers.

It is undeniable that machines are increasingly making decisions instead of humans. The types of decisions are broadening and the complexity covered is increasing all the time. Most of the time it is out of our attention or we do not even notice.

High-frequency trading, which is dealing with trillions worth of trading, makes it apparent that in stock and other financial trading computer decision making is outpacing humans in speed and quality.

Generally speaking humans are notoriously bad in decision making and are not getting any better in it over time. At the same time “computers” are getting better in decision making all the time. This trend is not going to stop and inevitably more and more decisions are going to be taken by computers.

Just a silly example: there will be a moment in not to distant a future that we humans will not be allowed to drive cars any more for we will be notoriously more dangerous, less efficient then computer driven cars.

Looking at the trend of computers getting better at decision making by the day I think it more logical to presume that humans will be pushed out of trading more and more.

Combing market efficiency, governance and computer decision making

Or are we to seek new exchange concepts that better fit the networked environment and are less dependent on speculative positions in the market places?

Will we be able to exchange value / ownership / risks in other ways than via the market places as we know them today?