It might come as a shock to some readers, but I actually don’t mind investing–that is, long-term value investing–as long as it’s not valued more than labor through the tax code (Got Capital Gains Tax?). But this isn’t value investing, but surfing electrons:
The most striking periodicity involves large peaks of activity separated by almost exactly 1000 milliseconds: they occur 10-30 milliseconds after the ‘tick’ of each second. The spasms, in contrast, seem to be governed not directly by clock time but by an event: the execution of a buy or sell order, the cancellation of an order, or the arrival of a new order. Average activity levels in the first millisecond after such an event are around 300 times higher than normal. There are lengthy periods – lengthy, that’s to say, on a scale measured in milliseconds – in which little or nothing happens, punctuated by spasms of thousands of orders for a corporation’s shares and cancellations of orders. These spasms seem to begin abruptly, last a minute or two, then end just as abruptly.
Little of this has to do directly with human action. None of us can react to an event in a millisecond: the fastest we can achieve is around 140 milliseconds, and that’s only for the simplest stimulus, a sudden sound. The periodicities and spasms found by Hasbrouck and Saar are the traces of an epochal shift. As recently as 20 years ago, the heart of most financial markets was a trading floor on which human beings did deals with each other face to face. The ‘open outcry’ trading pits at the Chicago Mercantile Exchange, for example, were often a mêlée of hundreds of sweating, shouting, gesticulating bodies. Now, the heart of many markets (at least in standard products such as shares) is an air-conditioned warehouse full of computers supervised by only a handful of maintenance staff.
In a related vein, I commented on the observation that seventy percent of stocks are held for eleven seconds:
There is no way the efficient markets hypothesis, in either the weak or strong form, is operating. Eleven second holds can’t be based on information about the quality of the investment because the underlying investment doesn’t fluctuate that rapidly.
Ed Harrison remarked:
The fact that the vast majority of stock market trades are held for 11 seconds shows that the stock market is not a real market with real traders governed by the law of supply and demand, and with no real price discovery.
Years ago, when banking first became computerized, there were apocryphal stories about hi-tech thieves ‘stealing’ the fractions of a penny that’s rounded off on daily interest payments and depositing them in an account–do this at a large enough bank and you could make a pretty penny or two. I’m not sure how that’s different than millisecond-scale trading:
Some, but not all, automated trading strategies require ultra-fast ‘high-frequency trading’. Electronic market making is the clearest example. The ‘spread’ between the price at which a market-making program will buy shares and the price at which it will sell them is now often as little as one cent, so market-making algorithms need to change the quotes they post very quickly as prices and the pattern of orders shift.
On a ten dollar share that’s a 0.1% profit; on a $40 share, that’s a 0.025% profit. I bring this up because a great way to eliminate this utterly useless activity would be a transaction tax of 0.1% (give or take). These guys would be out of business. Then maybe we could reallocate these smart people to do something useful.
By the way, computerized trading is now playing havoc with the commodities markets.
It’s their casino, prepare to be robbed blind in it….