*Flash Boys*, the new Michael Lewis book

by on April 6, 2014 at 12:35 pm in Books, Economics, Uncategorized | Permalink

For all the criticism the book has received, I liked and enjoyed it.  It illuminates a poorly understand segment of the financial world, namely high-frequency trading, and outlines some of the zero- and negative-sum games in that world.  The stories and the writing are very good, as you might expect.

It is a mistake to take the book as a balanced or accurate net assessment of HFT, but reading through the text I never saw a passage where Lewis claimed to offer that.  Maybe the real objections are to be lodged against the 60 Minutes coverage of the book (which I have not seen).

Why not read a fun book on a fun and understudied topic?  Just don’t confuse the emotional tenor of the stories with a final and well-reasoned attitude toward the phenomenon more generally.  Surely you are all able to draw that distinction.  Right?

Here is a good Noah Smith post about agnosticism and HFT.

Brian April 6, 2014 at 1:04 pm

As someone who works for a HFT firm, I couldn’t have said it better. While his characterizations are maddening at times (and some times explicitly, provably false), I enjoyed the book much more than I should have. I only hope that the breathless coverage of the book doesn’t scare people away from investing. There has never been lower friction in the market for retail investors than there is now.

B April 6, 2014 at 3:43 pm

Retail investors, yes. Might be more problematic for retail day-traders. But if you’re sitting at home trying to trade several times a day with the big institutions, you were guaranteed to lose anyway.

Seriously, folks, you can’t beat Wall St to a momentary arbitrage opportunity.

B April 7, 2014 at 11:22 am

What are a few examples of characterizations that are explicitly and provably false? Thanks.

The Objective Historian April 6, 2014 at 1:08 pm

Totally. It’s like those stories of merchants/traders who had runners going from The City in London to the docks fast to get to ships that are fast to get to Philadelphia fast for quicker information than the market.

The BATS guy on CNBC was obnoxious. I like the Asian guy. Michael Lewis is good, too.

The thing is I don’t care; I get it from the TV stories so the book seems like it’s education about the inane; like a story about how carousels work. Who cares?

Scooter April 6, 2014 at 1:16 pm

Like Noah Smith, Streetwise Professor (8/5/2014) has also taken a stab at sorting out the welfare effects of HFT concluding that “Agnosticism is a defensible position. Certitude is not.”

http://streetwiseprofessor.com/?p=8340

Rahul April 6, 2014 at 1:46 pm

I think agnosticism seems a good position for now. Neither side has me convinced yet.

Ray Lopez April 7, 2014 at 2:08 am

@Rahul–but in another thread you seemed to say to HFTT that you changed your mind about HFT; so you can’t make up your mind Rahul? :-)

As for me, I think HFT is not so beneficial to society that it should escape a Tobin Tax to cut down on it a bit, but I’m not sure either. Certitude is for young people or people talking their book. For instance: my pet theory is that humans can be reprogrammed relatively quickly to do other things, hence they will respond to incentives that make them become inventors rather than hamburger flippers (this is also a trait sometimes shared by the “Austrian” school of economics). However, both traditional society, and Keynesianism more generally, believes that skills are relatively fixed, hence preservation of the status quo (Keynesianism) and reliance on more or less unpaid Good Samaritans for innovation who will invent, ex ante, regardless of monetary reward (i.e., Nobel Prize winners, whose contributions are ‘discoveries’ that cannot be patented vs ‘inventions’ that can). I say Keynesianism and the status quo is bad, but I can’t prove it. Likewise how can you prove HFT is bad unless you ban it and see what happens? The Jones paper about the natural experiment in Canada was suggestive but not definitive (i.e., HFT hurts limit orders but helps market orders, but on balance is a net plus).

Ray Lopez April 7, 2014 at 2:11 am

“(i.e., [a ban on] HFT hurts limit orders but helps market orders, but on balance is a net plus)” –> should read [correction]

Rahul April 7, 2014 at 2:55 am

I did change my mind. I started out thinking most of HFT as evil. Now I think only parts of it might be. But I’m not yet convinced that all of HFT is innocuous or socially beneficial.

Scooter April 7, 2014 at 8:00 am

Ray,
We know that there is often a difference between who pays a tax and who bears the burden of the tax. I expect in this case the burden would fall on the users of the secondary market, i.e., individual investors, holders of mutual funds, and holders of pension funds. Of course, we have a natural experiment to observe in France.

Adrian Ratnapala April 7, 2014 at 7:04 am

Agnosticism is good. But in a free society that should mean you let people do whatever it is they want to do unless you can prove it is bad. But even on this site we hear people demanding that HFT prove its own right to exist.

Evan Van Ness April 6, 2014 at 2:02 pm

I’ve read just about everything that Michael Lewis has ever published. I’m a fan, but I realize that he never EVER lets the facts get in the way of the perfect story.

HFT Trader April 6, 2014 at 2:51 pm

Not that this topic hasn’t been talked to death on this site, but that Noahpinion entry made no sense at certain points.

“They hunt for patterns in prices or orders, find a pattern that seems to work, and trade on it until it stops making money. They don’t have any idea why the pattern exists. Sometimes it only exists for a few seconds. In fact, if they stop to gather enough information about the pattern to figure out why it’s there, it often disappears!”

Noah’s making it sound like since automated systems need to execute quickly that implies the researchers have no time to reflect. One has nothing to do with the other. Models can be carefully developed over months or years, carefully studied and understood. Yet they can still require millisecond execution to be profitable. How long the typical trading opportunity in a strategy has nothing to do with how long a strategy remains profitable.

“Actually, there are deep mathematical (information-theoretical) reasons to suspect that lots of HFT opportunities can only be exploited by those who are willing to remain forever ignorant about the reason those opportunities exist. It’s mind-bending (and incredibly interesting).”

Huh? The only thing I can imagine that he’s referring to is zero determinant prisoner’s dilemma. Yet those results say the opposite of what Noah’s saying: players with a theory of mind have an advantage in the game. Regardless I know of no way that these results are directly applicable to HFT or finance in general.

“Actually, maybe yes! In lots of models of markets, you need random, money-losing “liquidity traders” in order to overcome the adverse selection problem, thus inducing informed traders to trade, and getting them to reveal their information. But HFTs don’t lose money, they make money – is their liquidity provision worth the cost?”

Noah seems confused, the “liquidity traders” in the models he links to are liquidity *consumers*. Liquidity providers, e.g. HFT, play an entirely separate role. Liquidity providers earn positive profits under any non-absurd set of assumptions.

“It depends on how GE’s stock price affects the company’s investment decisions. To know that, we need an economic model of corporate decision-making.”

If this is the reason to agnostic about HFT, then it’s also a reason to be agnostic about literally all market economic activity. Noah’s saying since we don’t know how exactly entities respond to price, we can say nothing about the utility of accurate prices. How many economists are “agnostic” about farm subsidies? After all we don’t have an exact model about how food consumers respond to the price of food. Would Noah say that he’s unconvinced then that corn subsidies are economically inefficient?

Despite those criticisms I essentially agree with what Noah’s saying. (Though I would say the balance of evidence and theory is much more tilted towards the positive side than agnosticism describes.) When faced with deep uncertainties about why institutions or activities exist in human society one should defer to Hayek. There are many systems that are products of human action but not of human design. Attempts to monkey around through central planning on these systems often leads to unexpected, deep and destructive side effects. Promoting market alternatives is a far less risky approach than taking a stab in the dark with poorly understood regulation.

Ray Lopez April 7, 2014 at 2:17 am

“Attempts to monkey around through central planning on these systems often leads to unexpected, deep and destructive side effects.”

So, is a Tobin Tax on HFT “central planning” in your mind? How about a ban on insider trading? Is that also “central planning”? I suspect you are against a Tobin Tax on HFT, but for a ban on insider trading? How is that consistent? The only intellectually consistent argument would be to be against a ban or restriction or tax on HFT, and against any ban on insider trading. Unless you are simply talking your book and willing to offer incoherent arguments for the sake of temporizing and deflecting criticism, to buy time and hope the issue dies on its own. Is that you? “I don’t expect an answer” ( <– typical troll bait offered by HFFT in another thread, returned here).

HFT Trader April 7, 2014 at 3:44 am

I think you’ve failed to understand American insider trading law. (Aren’t you suppose to be a lawyer, if I remember correctly?). Allow a securities law professor to sum it up better than I can. The below is about the 1 second early release of the Michigan consumer sentiment survey, but can just as easily apply to direct exchange feeds or any other attempts to call HFT “insider trading.”

“Consumers of the information sold by media companies would not be subject to any claim of fraud because they are not trading on it in breach of a duty. When a company obtains the information through legitimate means, like the agreement Thomson Reuters has with the University of Michigan to distribute its index, then there is no violation of any duty by selling advance access to the data.
The S.E.C. does have a rule in place, Regulation FD, which requires public companies to disclose information to everyone at once and not just to select recipients. But this rule applies only to internal corporate information and not to the type of research data about the economy that is sold by companies.”

http://dealbook.nytimes.com/2013/07/16/possibly-unfair-but-not-necessarily-fraudulent/

Fool@fool.com April 6, 2014 at 3:18 pm

Yeah, and judge triumph of the will on whether it was a ripping yarn not on whether it was an evil lie

F. Lynx Pardinus April 6, 2014 at 4:17 pm

That’s a terrible example, considering they’ve actually made movies based on at least 2 of Michael Lewis’ books: “Moneyball” and “The Blind Side.” Use those as examples if you’re trying to make a point.

Fool@fool.com April 6, 2014 at 9:39 pm

No, I have no evidence those other books made into movies were false as this HFT hit piece is, nor, as I was making an analogy, was “made into a movie” at all necessary, but thanks for the advice.

Millian April 7, 2014 at 5:01 am

In practice, people do indeed judge Triumph of the Will on grounds other than subject matter. Have you ever seen Star Wars?

ummm April 6, 2014 at 3:21 pm

is there a way i can read this without giving michael lewis a cent?

Ken Rhodes April 6, 2014 at 3:53 pm

I suppose in Republican Nirvana, the source of books will be limited to bookstores.

Until then, you could try that left-wing socialist aberration — the public library.

Sleazy P. Martini April 6, 2014 at 9:22 pm

Shut the fuck up!

Carrytrader April 6, 2014 at 6:50 pm

A short and sweet read over the weekend. While Lewis could have shown the other side of the story, it is really a character driven story telling which he excels at.

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Elio April 9, 2014 at 5:54 pm

MR just said: “Just don’t confuse the emotional tenor of the stories with a final and well-reasoned attitude toward the phenomenon more generally. Surely you are all able to draw that distinction. Right?”

So the thing here if what you call “emotional stories” are truth or not….right? are HFTraders, Big Banks and Exchanges ripping investors off or not? are they front running investors market´s orders or not? are brokers selling the right to execute clients´ orders or not? why the exchanges sell to HFTraders especial access to their computers?, please define “well-reasoned attitude”…..

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