Guy walks in to the shadows of a crowded movie theatre. Yells "FIRE!!!!!". People scramble to exit. Some get trampled and hurt. It's ugly. A few skeptics remain (for the movie's still running). Of course, there's no fire. But people are prudently herd-oriented by nature so react viscerally. The guy emerges from the shadows, and coolly takes a prime seat - perhaps his objective all along? Some return to recoup their sunk cost, discover the predictable ending, or just watch Clooney, Pitt et. al. remove his shirt one more time. Sure, the guy runs the risk that he will be discovered as the causation of the chaos and mayhem. Sure, one of the larger and more muscular of the "victims" might punch him in the nose or break his leg(s). Or theatre management, might call the police, whether for civic purpose or liability containment. Others have employed the ruse successfully to obtain prime seats, with similar consequence. And despite its occasional reporting in the press, patrons, out of self-preservation, still react with the same visceral flight response. Sometimes they act in concert as two FIRE!!-Criers!!™ are more credible than one.
But somehow, in electronic financial markets, such ruses, ploys, and games, are discounted by apologists - be they HiFTers, libertarians (despite prevailing laws and regulations) and the recent arrest of the alleged perp accused of initiating the cascade. Why should one think it decidedly unacceptable in civic life, but somehow victimless, harmless and tolerable in financial markets? I think there is some hypocrisy about.The beauty of electronic exchanges is that there is there is a record and audit trail that easily permits measurement and enforcement of acceptable behaviour as defined by the rules. Egregious behaviour (spoofing, layering, etc) should be glaringly apparent and is easily discoverable by the even the most amateur of data tinkerers. Canadian SEDAR requires blue-sky disclosure of MF time and sales (something the US should emulate for MFs and HFs). The failure of exchanges themselves to investigate and exorcise the demons (or facilitate availability of the entire package of participant-specific quote-level data to all investigators) leads one to imagine that commercial conflicts are rife (as if we needed further evidence.
That exchanges themselves, and industry organizations have ignored/are ignoring this is perhaps not surprising. However the most striking [risk-management] issue - whether at the exchange, clearing-house, or executing broker or clearing broker level is the apparent total untethering of what a modestly-capitalised west-london punter can firmly enter and display on one of the most visible and largest exchanges in the world from the resources of that same modestly-capitalized punter can muster to make good the entry of orders for purchase, or sale of the leveraged positions, let alone the underlying magnitude of these positions. One wonders whether markets would have been similarly effected if participant-level disclosure indicating that Navinder Singh Sarao's modest account was touting these bids/offers or merely some indicator that the posted buyer/seller had no chance of fulfilling commitments.
its very common to show size way outsize of what the firm could handle. I know Gelber had a guy enter 12k ES positions to spoof. If the firm had to take down 12k they would have been finished
ReplyDeleteYour analogies are usually good, but I think off in this case.
ReplyDeletePeople go to the movies for enjoyment. Yelling "Fire" is not a normal part of going to the movies, so of course its unacceptable.
Placing bids in the market is a normal part of the market. Placing bids outside of current trading prices happens all the time. Those bids affect other market participants, most of whom are constantly considering how to make money off other participants.
I don't think spoofing is "outside the rules of the game." Maybe it takes advantage of some market participants, but doesn't every market participant try to do that with every trade?
Chris, thanks for the measured criticism.
ReplyDeleteI agree the analogy is not my most apt and that your distinctions are worthy.
But I remain rather torn and still consider spoofing as inherently sub-optimal. As far as I can tell Matt Levine's (and John Arnold's) only relevant arguments in favor are that it is useful in countering other dubious participant behaviours that increase market frictions. That may be reality-based (the world as it is, not as it ought to be), but one should concede that this is not setting the bar very high. The other cited point is the amorality of markets (i.e there is no inherent responsibility to prevent a more informed particpant (or algo) preying upon a less informed (dumber) one. I'm sympathetic to both these if only because I've made a fine living from the latter and (pre-DMA & HFT) used the former to keep "the fear of god" in executing brokers to avoid abusing my orders. I'd highlight the difference between that, which overtly was intended to protect, versus Sarao which was ENTIRELY predatory in its intention. Arnold may justify his spoofing to protect his right to bully prices with minimal frictions, but one may ponder the utility of his market operations upon the aggregate public's interest before answering.
If I viewed markets purely as a game unto themselves, then I would be more likely accept that all's fair in love and war - including corners, naked-short-selling, collusion, insider-trading, any manner of painting the tape, trading with yourself to create false markets, fabricating forward-looking statements, and so forth. And while even the roughest games have rules, it becomes a "slippery slope" problem as to just where to set them (if a all). This view implies markets have no higher purpose, and the public has no public interest in their optimal structuring - a view to which I do not subscribe.
There are of course veritable zero-sum outcomes in markets (day-traders trading amongst themselves for example). But I think it's myopic and simplistic to see the market in its entirety as zero-sum. Different investors have different horizons and vastly varying utility functions such that viewing it as zero sum "taking advantage" is to at best mis-characterize it, which is mostly in the interest of those who create and benefit from frictions vs. those that don't. I'm trying to be precise with my words because the continuum (and it is a continuum) describing the "optimality quotient" of particpants is problemmatical. Predatory trade IS a tax on Investors, (upper case I though admittedly defining the 'I' has a slippery slope element) doing their sad best to make allocative decisions. It's not obvious electronic markets differ in total implicit cost compared to history. But even white-shoe benign electronic MMs wish to avoid adverse selection to maximize profits. Only their programmers and the most fastidious (and experienced) of transactions costs analyzers know to what extent these costs compare to historically facilitated rape by a specialist or a block-traders' pound-o-flesh to provide the same liquidity for an out-sized line of stock.
I guess where I'm going with this is that I reckon that the more frictions (fragmentation, intermediation, obfuscation - the more sub-optimal the market becomes for it's inherent purpose. I can't see the virtue in having guys with little capital masquerade as big capital, or paint false and mis-leading pictures for predatory purpose. Sure, I chuckle at the thought of one algo predating another, and as an admirer of underdogs I am sympathetic to the Norwegian guy who was forced by Norwegian courts to pay TimberHill back for gaming their algos with spoofing in thin Norwegian stocks. But I'd rather see optimal structure and participants abiding by the purpose and spirit, rather than pushing the boundaries and gaming the technical crevices for if this is too endemic, markets will well and truly no longer be fit for purpose.
Sweetheart, please try and write clearer and stop trying to impress us with your intelligence.
ReplyDelete