The Wall Street Journal has a new angle on high-frequency trading today, reporting that some trading firms pay exchanges for early access to stock prices—access that gives them a leg up on everybody else.
The firms gain that advantage by buying data from stock exchanges and feeding it into supercomputers that calculate stock prices a fraction of a second before most other investors see the numbers. That lets these traders shave pennies per share from trades, which when multiplied by thousands of trades can earn the firms big profits.
Still think folks that think that markets are rigged are conspiracists?
Some firms pay tens of thousands of dollars a year to individual exchanges for premium access to their price feeds, industry players and exchanges say.
The SEC, in a broad review of market structure earlier this year, said information from trading-center data feeds “can reach end-users faster than the consolidated data feeds.”
Why is that legal? I also don’t understand why such access would be so cheap (tens of thousands of dollars for an early peek at prices seems like a pittance). That gives me some pause here.
It’s also unclear to me how this “latency arbitrage” relates to all the trading firms who are building computer farms next door or inside the stock exchange’s own servers, to get that microsend of a leg up on data. After all, even if information travels at the speed of light, the closer you are to the source, the faster you get it. The Journal doesn’t mention that and it should have. It also doesn’t explain how this relates to flash trading, which is at least something of a cousin to this.
But this is an important angle and applaud the Journal for finding it in this murky area. It also has a terrific anecdote from a trading firm that ran tests to try to prove that some traders were getting an early peek.
On a March afternoon, a TFS trader sent an order to a broker to buy shares of Nordson Corp., a maker of fluid dispensing equipment. The trader sent an instant message to the broker: “please route to broker pool #2,” a request to send the order to a specific dark pool.
The trader told the broker not to pay a price higher than the midpoint between what buyers and sellers were offering, which at the time was $70.49.
Several seconds after the dark pool order was placed, the market price didn’t change. Then the TFS trader set a trap: he sent a separate order into the broader market to sell Nordson for a price that pushed the midpoint price down to $70.47.
Almost immediately, TFS was sold Nordson for $70.49—the old, higher midpoint—in broker pool No. 2, which didn’t reflect the new sell order. TFS got stuck paying two cents more than it should have, suggesting that some seller knew the higher price was a good deal to nab quickly.
Get the feeling that there’s a much bigger story lurking in and around this high-frequency trading stuff?
Ryan Chittum is a former Wall Street Journal reporter, and deputy editor of The Audit, CJR’s business section. If you see notable business journalism, give him a heads-up at rc2538@columbia.edu. Follow him on Twitter at @ryanchittum.