For a brief moment last week, “flash orders” ranked #2 on Google Trends, just below “cash for clunkers car list” and a few spots above “Ryan O’Neal hit on Tatum at Farrah funeral.” Why would an esoteric piece of financial jargon suddenly light up the pop-culture scoreboard? The reason is simple. The Securities and Exchange Commission chairman had said the SEC staff would seek to eliminate the “inequity” associated with flash orders—an order type used on several U.S. exchanges. The media interpreted this as an eventual ban on flash orders. Two days later, last Thursday, Nasdaq and BATS Exchange announced they would withdraw their versions of flash orders by Sept. 1.
What led up to the SEC’s statement, however, is not so simple. It is, in fact, a cautionary tale for both financial reporters and their information-hungry audience of how ominous-sounding but vague information, combined with the public’s already deep suspicion of Wall Street, can lead to unnecessary confusion.
It started when a handful of financial websites fanned the flames of a small but simmering controversy in the trading industry, mixing up two different issues along the way. This brushfire blew up on July 24, when a front-page New York Times article, “Stock Traders Find Speed Pays, in Milliseconds,” in my view, amplified the confusion and—such is the paper’s power—wound up distorting the debate. That same evening, Senator Charles Schumer (D.-N.Y.) upped the ante further, flogging the SEC for allowing regulatory laxity to compromise the fair and orderly functioning of the equities market.
At the heart of this conflagration was something called flash orders. With this flash functionality, if a market can’t fill an order because another market is quoting the industry’s best price, the first market can flash the order for 0.03 seconds to recipients of its proprietary data feed. If a market participant then matches the best price, the market can fill the order and avoid having to send that order to another market and lose that business.
There are several trading and regulatory issues around the use of flash orders, including the main one: that some players get to see some order information that others cannot see.
But the Times story focused on a different and much larger phenomenon, something called high-frequency trading, which now represents at least two-thirds of the equities market volume. The trouble is, the Times implies, although it never explicitly states, that a big part of HFT involves strategies based on flash orders—which the Times refers to as “peeking.” The reader throughout is left to assume that flash-based strategies are integral to HFT—and that’s a problem. In fact, we don’t know how much HFT volume involves strategies built around reading flash orders.
In an email, the reporter on the story, Charles Duhigg, told us that his reporting found that in fact flash is a big part of HFT. But that assertion never got into the story. That’s too bad, because many experts think that flash-based trading strategies are a drop in the HFT bucket and might have been happy to challenge the claim. Readers, meanwhile, are left with a vague but unsupported sense that a large portion of HFT—indeed, of the market—involves “peeking” at investors’ orders via flash.
This all got started on June 1, when Nasdaq and a smaller rival, BATS Exchange, rolled out their own versions of a flash order that another competitor, Direct Edge, had been offering since 2006. Trade publications jumped on the issue back in May, and I weighed in later with a cover story in Traders Magazine that appeared the second week of July.
Then on Tuesday, July 21, a popular, often indignant financial blog called Zero Hedge ran a series of excerpts from my story, describing it as a “curious” article that “definitively peels off the cover of what truly happens at the pantheon of stock exchanges.” Zero Hedge immediately linked flash orders to high-frequency trading, which, along with Goldman Sachs, has long been a lightning rod for the site’s wrath.
That got the ball rolling. Other blogs, including The Big Picture (by Barry Ritholz, whose book, Bailout Nation, has just been published), The Business Insider, Seeking Alpha, and Daily Kos gave wing to the story.