The piece is largely propaganda. A nice rebuttal is found here: http://www.ritholtz.com/blog/2012/04/hft-pirates-and-their-a...
Can anyone explain why multiple exchanges exist (besides for historical or political reasons)? It seems anti-competitive that exchanges can be private at all, let alone that exchanges can be allowed to operate as monopolies in a market or country.
"Anti-competitive" is a false (i.e. nonsensical) concept. I mean, if I am a really good golf player, and I just keep getting more and more competitive, do I suddenly cross a bright red line that makes me "anti-competitive" because I'm just too competitive?
It's just a made-up term used to attack business that lots of people have unknowingly bought into.
If it were to actually mean something, it would mean using the government to grant a monopoly. That's the opposite of any kind of private business where two or more parties are voluntarily agreeing to trade. Like, for example, a private exchange.
In both cases, it has been observed over time that allowing individuals to do whatever they want has a negative effect on the game. You are not required to believe that the rules are necessary, in either business or golf, for them to exist.
Right, and "cheating" in the real world is defined by fraud and physical violence and their myriad manifestations, not mututal trade to mutual benefit (as on a proprietary exchange, for example). Or offering the best product at the lowest price.
But, that's not at all the meaning of "anti-competitive" as people use it.
You're welcome to argue that that position is misguided, but it is certainly not nonsensical.
I think it's a very commonly held position, and it's understandable that people hold that position.
I think monopolies are impossible or next to impossible except when granted by the government. BTW, I think (not sure) that that's actually the origin of the word "monopoly."
So, yes, monopolists are cheating, and the government is cheating. Of course, if the government permits cheating, it's "dog eat dog," so you have to cheat and/or might as well in some cases. (That, in fact, is what makes the Occupy Wall Street protests so inane, IMHO.)
I believe that in a truly capitalist system, oligarchies would be unable to weild undue influences for the same reasons I think monpolies would be unable to.
Microsoft was almost a monopoly and tried to use that monopoly to shut out competitors in adjacent markets.
This is just speculation, but I suspect Microsoft's life-saving investment in Apple could only have happened after they had been targeted by antitrust law. Otherwise Bill would've told Steve to get lost.
Would Apple still exist if not for antitrust law?
I believe that if it were not for various antitrust action (in both the EU and the US), MS would have continued bundling IE with Windows in a way that made the two inseparable. This would have led to the collapse of the Windows, because IE was too bug-ridden and security-vulnerable at the time, just barely acceptable. There had to be a separation of the two for Windows to remain viable. The EU had a particularly harsh ruling on this, IIRC.
Were it not for the EU, Linux, Solaris, BeOS, Amiga, or something else would have suddenly become much more important and would have taken up the slack. In other words, antitrust action may have "accidentally" saved Microsoft from their own mistakes.
I actually think this theory is plausible. (I know I actually was driven away from Windows because it was too virus-prone, and yes, this is for technical reasons, not just being the most used.)
Maybe MS and Windows would have survived just fine anyway. But the true moral of the story is, MS fundamentally cannot achieve a true monopoly in the operating system market, unless they get the government to ban all other operating systems. Unless other operatings systems become illegal, somebody else can always make a new one.
"Would have continued"? MS still bundles IE with Windows and uses its backend rendering tech in the system. The decision made by the court was that they had to provide access to "secret" APIs, not that they had to stop bundling IE.
This would have led to the collapse of the Windows, because IE was too bug-ridden and security-vulnerable at the time, just barely acceptable. There had to be a separation of the two for Windows to remain viable. The EU had a particularly harsh ruling on this, IIRC.
But there was never any separation! All copies of Windows with the sole exception of Windows 7 in the EU come with IE as the default and only browser. The HTML rendering technologies are still the same (Trident). And IE is still the most used browser.
What did those APIs do? If they were APIs that one would need access to to make a competitive alternative to IE for Windows, then my story would be surprisingly accurate given the little that I remember. To be clear, the case I'm remembering greatly predated Windows 7.
Anyway, maybe I just got the story from some shitty pop news article many years ago and it's all wrong. But it stands as a hypothetical rhetorical device in the discussion about monopolies.
Monopolies are not illegal; if I make the best widget, I can be the only person selling widgets. It's illegal when I use my monopoly to stop competitors from selling their own widgets.
If you believe that this situation is impossible, then the law is irrelevant, and it shouldn't bother you any more than laws against walking your elephant without a leash.
FWIW, I've spent a huge chunk of time studying ethics on my own. It's true that I can't claim to know a LOT of history about antitrust law. But the reason it's possible to make sense of "complex systems" is the use of (correct) principles about how they work, not examining every concrete example ad infinitum and saying, for example, "well, but maybe the ball will fall up next time". Anyway, putting aside the philosophisizing, I have more specific comments below.
It's illegal when I use my monopoly to stop competitors from selling their own widgets
My point is that your only means to do that is to use government force, i.e., laws. (Now there's a principle for you!)
Now, I might obfuscate the design of my widgets so that only I can make other widgets that interface with them. But that's not the same thing. For example, that doesn't stop others from making their own entirely separate system of interconnecting widgets. Similarly, Apple controlling what's in the App Store doesn't stop Google from creating it's own app store and controlling it's content. One might say that Apple "has a monopoly on content of the App Store," but that's using the term "monopoly" disingenuously.
This is not supposed to be a complete proof of anything, but it's supposed to suggest my line of thinking.
If you believe that this situation is impossible, then the law is irrelevant
Quite the opposite. The law is highly relevant because it's what makes the "cheating" possible. For example, if Apple got the government to bad the Google Store. Or if the EU bans Microsoft tightly bundling IE in Windows, for a real example.
You are mistaken.
ALCOA was the opposite they become a monopoly by out competing everyone else.
With US Steel and ALCOA, if these companies were in any way not serving the needs of the market, it would be perfectly feasible for competition to successfully enter the market. (Maybe that's what you're saying too.) Assuming they were not using government regulatory capture to prohibit the operations of their competitors (which, actually, is practically universal these days, and is precisely what I do consider to be a monopoly).
While, I get where your coming from. If you want to redefine a term use a new word, I would suggest Monopower if you don't want to say coercive monopolies.
PS: The reason you don't need 100% market share to count as a Monopoly is once your competition can't meet the full needs of the market so you can increase prices which in theory causes a loss of market share, significant barriers to entry can dramatically slow this process down. If the barriers to entry are high enough you can fluctuate between high prices -> slightly below market prices -> high price to prevent the competition from affording to expand quickly or even drive them out of the market as they must conserve cash to survive your dumping product on the market.
monopoly : "exclusive control of a commodity or trade," 1530s, from L. monopolium, from Gk. monopolion "right of exclusive sale"...
The people who have started using "monopoly" to mean "significant market power" and the like were doing a bait-and-switch to try to further an anti-business academic or political agenda. And most of the arguments you hear using the word "monopoly" imply the older definition that I'm using, but apply it to much looser definitions. For example, MS was never even remotely close to having a monopoly on operating systems. In fact, such a thing is not even really fathomable.
PS: The reason you don't need 100% market share to count as a Monopoly is once your competition can't meet the full needs of the market so you can increase prices which in theory causes a loss of market share, significant barriers to entry can dramatically slow this process down.
I didn't quote your entire paragraph, but I'm referring to all of it.
This kind of reasoning (which is reasonable and extremely common) is totally rationalistic (which is properly defined, by the way, as being an argument that seems deductively valid but is divorced from the way reality really is). I could talk about this at length, but I'd rather just give a short example for now. Imagine I'm a big business. If I'm consuming a particular kind of product as an input to my production, and one particular supplier charges a very high price, it wlll be greatly to my interest to either invest capital to produce it on my own, or (much more likely) seek out new producers to enter the market. If the existing supplier then tries to manipulate prices to drive the new competition out, only planning to raise them right after, I'll just see through it and continue purchasing from the new producer. A group of companies in my industry could even come to a mutual agreement of this sort to ensure that new competition enters.
The point is, in a capitalist (that is, politically and economically laissez-faire system), people don't just keel over when there are problems in the market, if those problems are actually big enough to be worth solving.
More recently manufacturing has enabled company's to create capabilities though investments that are not easy to duplicate.
Intel is the only company on the planet capable of manufacturing 22nm chips at scale. Other companies can do 28nm and given time other companies will catch up. But, their Monopoly on 22nm chips has nothing to do with patents and is dependent on the incredible multi billion dollar investments required to manufacture at such scales. 14nm Fab's are expected cost more than 5 billion dollars per facility, and vary few institutions can afford such investments. http://www.kitguru.net/components/cpu/carl/intel-plan-fab-42...
PS: In 5 years 22nm manufacturing will be yet another commodity process, but by then Intel will have moved on. Intel has no interest in becoming a true monopoly, in large part due to the legal limitations that monopoly's face. However, that does not mean if the law was revised they could not rapidly do what Standard Oil or Alcoa did.
"Truly capitalist system" is not an economic term, it's a political term. As such it's not very useful in this discussion. It is important to distinguish "free markets" in the theoretical sense from "unregulated markets" in the political sense. Conflating the two just results in confusion.
Monopolies and oligarchies and all sorts of anti-competitive structures arise naturally in unregulated economies. For example, monopolies arise in any market where the marginal cost of providing a good or service continues to decrease without hitting a floor. Natural monopolies also arise in situations with significant network effects. Telecoms are the pedagogical natural monopoly.
Completely disagree with you here. I use "capitalism" to refer to an economic and political system, and I think people who use the terms the way you are are the ones introducing confusion. There are economists on both sides of this, as well as philosophers, so having clarified, we should stop this kind of discussion. What I mean is, if you are already so convinced of the rightness of this many things that I disagree with, I don't think HN is going to be a productive place for further discussion.
Monopolies and oligarchies and all sorts of anti-competitive structures arise naturally in unregulated economies.
I completely disgree, but I think we disagree on which usage of most of the words in that sentence is proper and which is invalid. (All the ones that aren't just glue words.)
I know you've read this stuff in economics textbooks. I'm already aware that I disagree with those particular textbooks.
It's definitely possible for private agreements to be anti-competitive in the sense of undermining efficient markets. Collusion to fix prices is the pedagogical one.
I've discussed this quite extensively in other comments descending from the one you're replying to, which you can find if you want, and I don't really want to start another separate branch of commentary.
"-the IOI’s that dark pools send to each other"
If IOI's are bad, why exactly are they bad? The post fails to explain the "why" for any counter argument it presents.
One additional rational not previously mentioned for multiple exchanges is redundancy. Reg NMS allows trading venues to match orders of listed securities from other markets. Because these markets compete as liquidity centers it behooves large market participants to have direct connections to all of them. If the NYSE has technical problems (this happens more often than you may realize, to all the exchanges) trading in NYSE listed securities continues unabated on the other platforms.
Do you mean the Chris Stucchio piece? Because, despite it being an apology, it doesn't justify how HFT is socially beneficial. This piece makes hand-wavy claims about liquidity, and says that it will better justify HFT in a coming blog post.
As for the Bloomberg piece defending HFT, it fails to address a few issues that the SEC and critics have with HFT. These issues are enumerated in the Ritholtz blog post. Pointing out certain facts that an argument ignores is a valid rebuttal.
Could he just maybe write a post and spark a discussion about how his field actually works so we can learn something about it?
I DO NOT UNDERSTAND this HN mentality that equates "learning more about X" with "joining the death cult of X". And it comes up all the time: no, we can't discuss how SEO works, because that would make us morally black hat SEOs; no, we can't discuss how HFT works, because that would make us morally Goldman Sachs executives; no, we can't discuss how a law is written, but that would mean we want to give the Internet to the MPAA.
The particular mode of argument in your comment and many like it on this thread is directly counter to the whole idea behind this site and every other worthwhile message board on the Internet. Yes, we get it, you don't know who G.H. Hardy is or didn't pick up on the joke in the title --- but it's obvious from the rest of the post that it's trying to explain how things work, not make a case for why it works that way.
The word "liquidity" doesn't appear in my blog post.
All I made were very concrete claims about how a matching engine works (all of which you can verify from the sources I listed) and some explanation of how why being faster helps HFT's to make money.
However, I was still looking for the justification promised in the opening sentences. So I look for the subtext in your technical explanation that would justify this oft misunderstood field. I clearly misunderstood your justification for HFT. What is your justification for HFT?
From paragraph -1: "In future posts, I’ll discuss it’s societal utility and costs."
Perhaps to those that already understand the significance of those facts. But to people who want to learn, it's not useful.
Which are you complaining about? The fact that we have multiple privately operated exchanges, or the fact that we don't have a single government-run monopoly on exchanges?
It isn't obvious to me that multiple exchanges are either good or bad. If it is obvious to you, I'd love to hear a technical explanation.
How could you not have multiple exchanges? They don't sprout out of magic beans; they're markets. Inherently, they're groups of people deciding to do business with each other. Almost the only thing that makes them substantively different from a farmer's market is standardized contracts.
In the stock market of the 1950s, if you were a naive corporate buyer or seller, something like 10 different kinds of market participants could (and would) fleece you on every transaction. You probably couldn't even get a quote without getting hit by some kind of scam.
How much better would the markets be today if we had taken the 1950s system and granted it a monopoly?
This is good, because new ATS's dont need to worry about network effects and can compete on features.
On the other hand, this required functionality could limit the set of possible new features. For example, it may be difficult to implement some way to discretize or slow down markets to remove any unnecessary advantages conferred on HFT traders, because of this mechanism.
Some people in this thread have expressed that they think a discrete-time market (where trades are executed at certain time ticks, instead of continually) would be beneficial. If these people were to IPO their company, they could choose exchanges that use this approach.
Free open markets, anyone? Multiple exchanges ensure that the markets are not controlled by any one exchange, which can use its monopolistic advantage to increase costs by levying high fees etc.
Furthermore, if one exchange does something shady like front-running, or preferential information sharing with its "partners", then people can just move to another exchange. Basically, multiple exchanges make the markets more honest.
Without the market fragmentation, we'd still have "specialists" controlling stock prices physically from the floor of the stock exchange.
My question: how much do network effects matter. Internet guys always assume network effects are a primary force in marketplaces. I'm an Internet guy, so I can't help but have this bias.
It's fascinating to me that there are so many ATSs. What's the endpoint? Will we eventually see hundreds of ATS's, each with some benefit valued by some arcane subset of traders? Or can an individual ATSs incorporate the range of improvements, and through network effects crowd out the others?
There are also dark pools, whose innovation is that they don't display quotes. Every large brokerage has a dark pool. I wonder if there will be consolidation there; it's anyone's guess at this point.
As for network effects, Reg NMS requires an exchange to route an order to a rival if the rival has published a better price. So network effects are less important than you might think outside the dark pools. The features that really attract market makers are things like fees and likelihood of getting a fill (ie, priority rules).
Really helpful post. Thanks for the information.
... if only. Reg NMS is a massive headache. This sort of price convergence would be better left to the arbitrageurs. Let the market deal with the light speed issues instead of trying to regulate physics.
Multiple exchanges allow customers to choose from better trading fees, execution times, colocation offering, etc.
I'm not sure how big of a plus this is. Most people wan to expend effort on picking the right stocks to buy or sell, and while they want low transaction costs the price of too many alternatives is increased complexity.