tag:blogger.com,1999:blog-14963913.post1754408645508936980..comments2023-10-27T20:27:57.900-04:00Comments on Kid Dynamite's World: Aftermath: Remedies - Don't Lose Faith in Markets - Lose Faith in Market Orders!Kid Dynamitehttp://www.blogger.com/profile/17475987512856310577noreply@blogger.comBlogger46125tag:blogger.com,1999:blog-14963913.post-52896712805635237032010-06-08T23:09:21.465-04:002010-06-08T23:09:21.465-04:00Mencius,
A market maker is by definition an entit...Mencius,<br /><br />A market maker is by definition an entity that doesn't want to own a stock. He need have no more understanding of the fundamentals of a stock than a bookmaker does of the two competing teams. He simply places at risk offers to buy and sell and adjusts them based on what he learns about where the equilibrium price is located. In so doing he acquires unwanted temporary long and short positions that he disposes of by further adjusting the prices he offers. He exists because he is demanded, and can make money so doing (though not easily). Knowledgeable investors don't curse his scalping, they are grateful that, due to him, they can pick up the phone or log on to a computer and instantly buy or sell stock without going through the pain and suffering of finding a counterparty themselves. It's just that painfully simple. Getco's guy on the SEC HFT panel did a wonderful (and down to earth, as a former floor trader would be expected to do) job of explaining just this. A flash recording is available on the SEC site.<br /><br />Why all the fuss about technical information being used to adjust prices? Large size has always moved markets, probably for about 30,000 years. I loved the quote by someone: to not adjust prices based on technical information is like playing hide-and-seek with a 4 year old, and pretending you don't see his leg sticking out behind the couch. The technical information is material and important for fairness. Of course everyone complains about the market makers, but it's in the sense that they complain about the price of roast beef.slackfulhttps://www.blogger.com/profile/09756139316698877927noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-42041400271510087332010-06-04T23:47:32.078-04:002010-06-04T23:47:32.078-04:00Kid,
You make good points here about the virtues...Kid, <br /><br />You make good points here about the virtues of limit orders. Another tool I think too few individual investors are taking advantage of is hedging, and I think that's mainly because for most of them, when it comes to options, it's Greek to them. <br /><br />We developed a site called <a href="http://portfolioarmor.com/" rel="nofollow">Portfolio Armor</a> to sweep away the Greeks and simplify the hedging process for investors (it's a tool I <a href="http://steamcatapult.com/2010/05/06/buying-umbrellas-when-its-sunny-out/" rel="nofollow">use</a> myself). <a href="http://portfolioarmor.com/contact-us" rel="nofollow">Contact me</a> if you would like to demo the site. <br /><br />If, after trying it out, you think it might be a useful tool for your readers, you can become an affiliate and earn 50% recurring referral commissions for every reader of yours that becomes a subscriber.Dave Pinsenhttp://steamcatapult.com/noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-37425123763803259472010-05-17T14:36:31.454-04:002010-05-17T14:36:31.454-04:00I think it all boils down to education, like you n...I think it all boils down to education, like you noted. I would bet most people reading your blog don't need a primer on the finer points of trading, but the problem really lies with the reactions of the uninformed to bumps and "glitches" in the markets.Baltimore Financial Plannerhttp://www.wealthadvocacypartners.com/noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-65650451048950550632010-05-11T01:24:35.010-04:002010-05-11T01:24:35.010-04:00This is going to sound conspiratorial, but this se...This is going to sound conspiratorial, but this seems like someone took advantage of the reflexivity that is always going on about.Doc Merlinhttps://www.blogger.com/profile/13615897698740661539noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-67653564777194363992010-05-10T17:00:27.810-04:002010-05-10T17:00:27.810-04:00yes - what i described -looking at a $95 bid and b...yes - what i described -looking at a $95 bid and bidding $97 as a result - IS scalping customers, in a way, and yet at the same time, it's helping the seller, and preventing further price declines...Kid Dynamitehttps://www.blogger.com/profile/17475987512856310577noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-45035105144468406272010-05-10T16:57:34.097-04:002010-05-10T16:57:34.097-04:00Right. But of course, if he can see into the order...Right. But of course, if he can see into the order book, he can also devise almost infinitely complex schemes by which to scalp his (so-called) customers.<br /><br />BTW, I like your coverage of EuroTARP. You might enjoy <a href="http://books.google.com/books?id=7YgHAQAAIAAJ&pg=PA66&lpg=PA66&dq=carlyle+%22french+revolution%22+bankruptcy&source=bl&ots=ywC1sR8Uas&sig=JDWUyV-Q7pC4ITdWwnixXdJSLB8&hl=en&ei=WHLoS87EK4yMswOb5tTpCA&sa=X&oi=book_result&ct=result&resnum=1&ved=0CBwQ6AEwAA#v=onepage&q&f=false" rel="nofollow">Carlyle on bankruptcy</a>:<br /><br /><i>"Great is Bankruptcy: the great bottomless gulf into which all Falsehoods, public and private, do sink, disappearing; whither, from the first origin of them, they were doomed..."</i>Mencius Moldbughttps://www.blogger.com/profile/16472157249344139282noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-72325612258777662112010-05-10T16:55:59.054-04:002010-05-10T16:55:59.054-04:00This comment has been removed by the author.Mencius Moldbughttps://www.blogger.com/profile/16472157249344139282noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-3043118526708154612010-05-10T14:18:57.039-04:002010-05-10T14:18:57.039-04:00menicus - no - i definitely don't think that o...menicus - no - i definitely don't think that one needs to see into the order book to be a market maker, although if the market maker CAN see such things, it will result in his ability to take MORE risk.. (ie, if IBM is trading $100, and there is a $95 bid for size, the market maker may be more likely to provide liquidity at $97, thinking he has less risk if things move against him)<br /><br />but to answer your question - i see no reason why we couldn't have my one big dark pool solution - except for the fact that politicians, regulators, and retail individuals aren't philosophically savvy enough to understand that it would work.Kid Dynamitehttps://www.blogger.com/profile/17475987512856310577noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-89504329376283890212010-05-10T13:50:27.627-04:002010-05-10T13:50:27.627-04:00KD,
Sorry - mea culpa. I am confusing you, by us...KD,<br /><br />Sorry - mea culpa. I am confusing you, by using the word "market maker" where I meant "exchange." In my example, IBM runs its own exchange. So just s///.<br /><br />I am not in any way arguing that creating liquidity is not and should not a profitable enterprise.<br /><br />I actually greatly dislike the term "liquidity." I feel it is used to mean at least two categorically separate things, if not three. <br /><br />What I believe you mean here by "liquidity" is: the coefficient by which an order moves the market. Ie, a market is "liquid" if a big order moves the price only a little, and "illiquid" if it moves it a lot. A perfectly fine terminology if the word was not otherwise employed.<br /><br />If everyone who holds and/or trades IBM trades it on IBM's private exchange, then this exchange (CLOB) contains all the IBM liquidity in the world. That's what makes it "central," n'est ce pas?<br /><br />So there remains a disconnect here. Are you asserting that, in order to act as a "market maker" and provide liquidity, ie, price resilience against irregular order flow, an agent has to be able to see into the book? (As, I presume, an NYSE specialist can.) I would strongly disagree with that assertion - or would at least like to see it backed up.<br /><br />But if the assertion is not true, what exactly constitutes a liquidity provider? I guess what I'm asking is: what are the regulatory and competitive mechanisms that prevent the market from converging on your preferred solution, the "one big dark pool" with the same interface for everyone - just publishing a log of trades, perhaps, with no visible bid or ask?Mencius Moldbughttps://www.blogger.com/profile/16472157249344139282noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-52718822866802059682010-05-10T13:03:01.277-04:002010-05-10T13:03:01.277-04:00menicus - don't get confused. Market makers t...menicus - don't get confused. Market makers take risk. they need to be compensated for this risk. they won't provide orderly markets for you if they are losing money doing it.<br /><br />again, it seems to me that you're confusing "trading exchange" with "market maker".<br /><br />your IBM example is not about market makers at all, and it wouldn't maintain a clean market in its own shares - it would maintain a horrendously thin, illiquid marketplace in which to trade its own shares.<br /><br />if you expect someone to provide liquidity, you should expect them to (try to) make money doing it. full stop. i can't argue this point - it's fundamental.Kid Dynamitehttps://www.blogger.com/profile/17475987512856310577noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-61422923115351650542010-05-10T12:49:24.975-04:002010-05-10T12:49:24.975-04:00Balls. OK, now we disagree. Why should a market ...Balls. OK, now we disagree. Why should a market maker have to trade for his own benefit? What are his expenses? He's running a server room. Maybe he has $10K a month in Amazon EC2 costs. Maybe it's $100K. But it's sure not watering all the lawns in Connecticut!<br /><br />For instance, suppose I'm IBM. Why shouldn't IBM run its own CLOB, in IBM shares? Simply keep a database in which each IBM share is marked with an owner and a limit price, and a list of bids. Buy IBM - submit a bid, see if it gets filled. Sell IBM - set a limit, watch it get filled.<br /><br />This would absorb one gazillionth of IBM's IT capacity. Why shouldn't IBM provide this service for free, so as to maintain a clean market in its own shares?<br /><br />Now, it is a little silly for each issuer of a security to have to run a book for itself. IBM can do it. Med Patent can't do it. So: outsource. One big database for everyone.<br /><br />But no. The confusion between trading infrastructure and market participation is endemic on Wall Street and always has been. Perhaps it once needed to be. It strikes me that there's still a lot of legacy assumptions from the paper age.Mencius Moldbughttps://www.blogger.com/profile/16472157249344139282noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-33830789103013819662010-05-10T12:40:16.647-04:002010-05-10T12:40:16.647-04:00KD,
No, you didn't. No disagreement here - j...KD,<br /><br />No, you didn't. No disagreement here - just a matter of emphasis.Mencius Moldbughttps://www.blogger.com/profile/16472157249344139282noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-84924147489835537412010-05-10T12:39:38.291-04:002010-05-10T12:39:38.291-04:00yeah - totally dark (no bid/ask published) would b...yeah - totally dark (no bid/ask published) would be beautifully philosophically pure - I think i've commented as much in the past on other blogs, but it would NEVER fly.<br /><br />a market maker has to have a conflict of interest - he is trying to provide liquidity without trying to go bankrupt while doing it... what's the remedy? to make market making a government run money losing operation? oy vey - please no. <br /><br />incidentally, and without any desire to get off on this tangent, we discussed this with respect to GS's role as market maker in CDOs... they CANNOT look out for their clients' best interest, because their clients' best interests conflict with their own! there's nothing inherently wrong with that..<br /><br />and that's PART of the reason why we moved away from specialist driven systems in the first place - so that the specialists couldn't monopolize that market making profit.Kid Dynamitehttps://www.blogger.com/profile/17475987512856310577noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-16994785316515008152010-05-10T12:35:11.207-04:002010-05-10T12:35:11.207-04:00Ie: in your "purest market", it is a cle...Ie: in your "purest market", it is a clear conflict of interest for anyone to trade on the non-public book. The pure market simply matches orders and publishes best bid and offer prices. (In fact, one could imagine an even purer market that was perfectly dark - the only way to get a quote would be to trade.)<br /><br />I don't know exactly what NYSE specialists do. But it sure smells like a corrupt legacy operation.<br /><br />The fact that no market without such a conflict of interest exists is not a sign of healthy capitalism. It's a sign of the breakdown of the rule of law. In a healthy regulatory environment, clean and pure outcompetes dirty and conflicted.Mencius Moldbughttps://www.blogger.com/profile/16472157249344139282noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-4869190268780539872010-05-10T12:34:39.083-04:002010-05-10T12:34:39.083-04:00sorry menicus - you lost me. i never called the NY...sorry menicus - you lost me. i never called the NYSE the "purest" market, and I already said that i think one big dark pool, which i think is pretty much the same as your CLOB, would be the purest market.<br /><br />all i was trying to say is that the old NYSE model was a different kind of CLOB that was inferior to what we have today.Kid Dynamitehttps://www.blogger.com/profile/17475987512856310577noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-22403645406728406512010-05-10T12:30:34.783-04:002010-05-10T12:30:34.783-04:00I really appreciate Clancy's explanation. Inf...I really appreciate Clancy's explanation. Information of this quality is not widely available.<br /><br />It's not clear to me that "HFT" really means anything. In the 21st century, why shouldn't everything be high-frequency? The question is simply what kind of algorithm you're using to drive your trades. "Fundamental analysis" being one such algorithm. <br /><br />What Thursday revealed, it seems to me, is that most of the bids in the market are placed based on transient and obscure correlation patterns, and relatively few are placed as a result of fundamental analysis. This does not prove that the broad price level (which did recover on Thursday) is not set fundamentally, but it is surely not evidence for the proposition!<br /><br />As for NYSE, a CLOB that's scalping your trades is anything but the "purest" market! Arguing against CLOBs by using the NYSE as an example is like arguing against flush toilets by saying that, when you flush a clogged toilet, it overflows.Mencius Moldbughttps://www.blogger.com/profile/16472157249344139282noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-53167403907147746992010-05-10T11:26:57.378-04:002010-05-10T11:26:57.378-04:00clancy - thanks for the comments.clancy - thanks for the comments.Kid Dynamitehttps://www.blogger.com/profile/17475987512856310577noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-15015608086277989812010-05-10T09:45:59.114-04:002010-05-10T09:45:59.114-04:00menicus - first off, i think you're using &qu...menicus - first off, i think you're using "HFT" and "electronic trading exchanges" synonymously, while they are not the same thing.<br /><br />also, make sure you read Clancy's comments.<br /><br />as for a CLOB - my point was that we basically tried that already... and we didn't like the way the guy running the CLOB (NYSE specialist!) was printing money by scalping our trades... so we democratized it through competition, and now we have other players scalping teeny tiny amounts in greater numbers. It's unavoidable, IMO. You can't outlaw competition or profit.<br /><br />great quote about distributing the blood in a fine mist over connecticut. lol.Kid Dynamitehttps://www.blogger.com/profile/17475987512856310577noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-38407045159154570542010-05-10T09:34:21.653-04:002010-05-10T09:34:21.653-04:00funamdentalist - i do NOT know the TerraNova guys,...funamdentalist - i do NOT know the TerraNova guys, but they already put out a rebuttal saying that they didn't trade or clear ANY PG below a price of $60 on the day, so they are saying it absolutely was NOT them...Kid Dynamitehttps://www.blogger.com/profile/17475987512856310577noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-45288697135754625442010-05-10T09:15:42.342-04:002010-05-10T09:15:42.342-04:00BTW, I like your flat dark market idea. I was thi...BTW, I like your flat dark market idea. I was thinking the same thing just this morning. Transparency is a source of inefficiency - by publishing open orders off the best bid and offer, information which those placing the orders would rather not publish, you are causing the publishers of those orders to effectively lose money. Ie, you are sucking their blood like a vampire, and distributing it in a fine rain over Connecticut.<br /><br />Note that in the "purest market" (which publishes only the best bid and offer price) there is really only one knob you can turn if you want to sell a gazillion shares into the market. You can rip the band-aid off fast or slow. Technology can presumably be applied, but how much technology can you apply to one knob?<br /><br />So, as a complete outsider, I really think that much if not all this high-speed finance is entirely wasteful and inefficient. Nice that it gets people paying attention to the latency of their TCP stacks, though!Mencius Moldbughttps://www.blogger.com/profile/16472157249344139282noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-17249530800227340352010-05-10T09:06:34.945-04:002010-05-10T09:06:34.945-04:00KD,
That's an answer but not an answer! The ...KD,<br /><br />That's an answer but not an answer! The question of whether a CLOB is better is distinct from the question of whether the NYSE was better. Ie, did "competition change that" because NYSE sucked, or because CLOBs suck?<br /><br />Eg: to sharpen the question, assuming an efficient electronic CLOB, would there be an incentive to trade off-CLOB? Difficult to imagine one.<br /><br />Alas, if my suspicions are confirmed, HFTing is just a bunch of parasitic makework, like so much else in our economy. The fact that there were no standing limit orders in PG, ACN, etc, down to a penny, is particularly remarkable and reflects the general lack of information input into this market - a phenomenon I know you've remarked on.<br /><br />What concerns me most about the general dominance of stat arb strategies is this lack of information input - the quants are not feeding off patterns created by a market of fundamental analysts, but simply off the patterns created by other quants. Unsurprising (in retrospect) that a failure case should exist in which all these noise traders shut down at once.Mencius Moldbughttps://www.blogger.com/profile/16472157249344139282noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-10247213497631402652010-05-10T08:45:20.067-04:002010-05-10T08:45:20.067-04:00Clancy,
Thanks for the post. Very useful. By wa...Clancy,<br /><br />Thanks for the post. Very useful. By way of background, I am a the sole employee of my own stat-arb fund (relatively small, but big enough to be considered a large trader under the new SEC proposal).<br /><br />I shutdown at 2:41PM, and stayed down for the balance of the day.<br /><br />Question for you. Did you guys measure the latency on quotes hitting the multicast feeds relative to their internal timestamps?<br /><br />By the time I shutdown, I saw around 100ms delays on ARCA packets (I use the non-compacted multicast feeds about 2ms away from ARCA's servers).<br /><br />Unfortunately, I didn't have my code running with a high enough debug level on other exchanges to log the latency, so I didn't measure BATS/Nasdaq/OMX BX, but I am really interested in knowing if the other major electronic exchanges performed better than ARCA.<br /><br />Any input?<br /><br />-PeterPeterAnonymousnoreply@blogger.comtag:blogger.com,1999:blog-14963913.post-24392853104364504782010-05-10T08:36:50.664-04:002010-05-10T08:36:50.664-04:00@Kid:
Terrific post and comments. Only footnote I...@Kid:<br /><br />Terrific post and comments. Only footnote I would add to your statement that <i>there is certainly a lot of exploiting of inefficiencies, which is a good thing, by the way</i> is that, IMO, the kind of beneficial arbitrage I think you're alluding to completely breaks down in a thinly traded environment, the most spectacular example being the risk market c. 2007-08.<br /><br />And again, ratings and financial transparency play key roles in identifying "true" inefficiencies!Transor Znoreply@blogger.comtag:blogger.com,1999:blog-14963913.post-6598503082761190202010-05-10T04:48:05.282-04:002010-05-10T04:48:05.282-04:00KD,
you know the guys from Terra Nova? Press repo...KD,<br /><br />you know the guys from Terra Nova? Press reports says that the P&G sell order originated from themThe Fundamentalisthttps://www.blogger.com/profile/05125314585838649775noreply@blogger.comtag:blogger.com,1999:blog-14963913.post-58020670021547940252010-05-10T00:04:43.945-04:002010-05-10T00:04:43.945-04:00This comment has been removed by a blog administrator.clancynoreply@blogger.com