In the retail foreign exchange market there is a long history of complaints about brokers taking advantage of customers to their own benefit. Having now read Broken Markets: How High Frequency Trading and Predatory Practices on Wall Street are Destroying Investor Confidence and Your Portfolio by Sal Arnuk and Joseph Saluzzi, I can’t help but think things in the equity market are so much worse. At least in the forex market the types of front-running and conflict of interest activities the book talks about tends to draw the attention and ire of the regulators. In the US stock market, though, this stuff and worse is going on at the hands of high frequency trading (HFT) systems, and it’s largely thanks to regulatory changes that have been made over the last number of years. Not only that, but nothing has really been done to prevent another Flash Crash from happening. At least that’s the takeaway I get from reading this book. It’s an eye-opener.
We’re not just talking about front-running, which was a complaint often aimed at the old specialist system. We’re talking about what information is being provided to which market participants and not to others. We’re talking about the way orders are being routed and how brokers are being paid to send orders to specific exchanges and/or dark pools. It’s no wonder so many individual investors think it’s a rigged game!
Now, as much as there’s a lot of really interesting (and potentially horrifying) information and ideas in the book, it is a text with a clear agenda. The authors are advocates for change – in some cases a reversion back to prior market structures. They make good arguments (and there are copious footnotes), to be sure, but as someone who doesn’t have a deep knowledge of the mechanics and inner workings of today’s equity market, I would personally need to hear from the other side of the debate before forming my own position on specific proposals. That said, the case I have heard made in the media in support of HFT in terms of added liquidity, etc. thus far is not sufficient to overcome the objections presented by the authors of Broken Markets.
As much as this book is a good argument for a change to the system and the need to rein in HFT, however, it gets marks off for how it was written and structured. There is a lot of repetition of ideas and arguments. It has the feel of a book comprised of a collection of articles rather than being something purposefully written. The inclusion of a couple of guest chapters furthers that impression. While I haven’t (yet) read the white papers written by the authors (they are included as an appendix), I get the distinct impression most of the book comes right out of them. As a result, I can’t help but wonder if it wouldn’t be better to just read them and not bother with the book. The white papers can be found on the web, and the authors blog regularly on the HFT subject.
So the bottom line is that Broken Markets has a lot of important information and ideas, but isn’t the greatest book because of how that stuff is presented, so I give it a middling rating overall.
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