
What Business is Wall Street In? - uptown
http://blogmaverick.com/2012/09/21/what-business-is-wall-street-in-3/
======
patio11
_It is getting increasingly difficult to just invest in companies you believe
in._

Like how twenty years ago you could buy a stock you believed in for like $4 by
using a computer system, paying a fraction-of-a-penny spread on average, to
have a trade executed in milliseconds to seconds, but now you have to talk to
a human on the phone and pay a $400 commission to pay a fraction-of-an-eighth
spread and have the trade execute in minutes or hours? That fact pattern would
make this critique make sense.

No, it is fantastically easier to trade the stocks of companies you believe
in. If there is a problem with the market, the "problem", and one uses that
term loosely, is that people are talking about macroeconomic trends more than
individual companies because the observable evidence is overwhelmingly in
favor of a conclusion we've pretty much known for decades: seeking alpha is a
sucker's bet.

~~~
uptown
"It is getting increasingly difficult to just invest in companies you believe
in."

You're interpreting that sentence literally. His point is that investing in a
company used to largely be based on how successful you though that company
would be. The market has changed in a way that an overwhelming number of
external factors can have a negative (or positive) impact on that company's
share price, making the evaluation of risk far more difficult. At the same
time, the barriers to getting into the market have been lowered making it far-
easier for anyone to participate. That sentence has nothing to do with how
your initial trade was executed.

~~~
btilly
If that is really his point, then he does not understand value investing.

From the point of view of a value investor, the numbers that you care about
are the current price, and how successful you think that company will be. If
the current price is below that benchmark, you buy and hold. If the current
price is above that benchmark then _maybe_ you want to sell short. (The reason
for the maybe is that, _the market can stay irrational longer than you can
stay solvent._ ) Either way you're aiming to make a profit off of the
difference between long-term returns and the price you bought it at.

Therefore from the point of view of a value investor, everything that helps
people lose track of a company's long-term prospects is good for you.

~~~
chromatic
Better than that, an irrational dip in a stock's price due to an analyst
recommendation or another factor may represent a good opportunity for a value
investor!

~~~
nirvana
Exactly. And we should just stop calling them "Value" investors. This is true
for growth investors, any kind of investors, in fact all investors.

Investing is about knowing the difference between value and the price.

When you can do that-- and when I say "knowing" I mean it, and I have a
spreadsheet to calculate it-- then you can buy low and sell high.

The problem is wall street is in the business of managing other people's money
and most people are ignorant of money, so you have a lot of people who just
turn their money over to others to "manage"... and many of those that use
other people's money end up gambling with it rather than investing it... this
problem is compounded by the moral hazard created by the government bailing
these companies out when the gambles turn south (or underwriting the gambling
by buying bad securities as helicopter ben is doing right now to the tune of
$40B a month.)

The problem with wall street is government regulation which is idiotically
designed, and intervention-- in the form of bailouts-- that perverts the
entire system incentivizing gambling.

And the people voting for all this, generally don't even know what money is,
let alone how to invest it. (If you think the dollars in your pocket are
money, then you're one of those people, and I suggest you read
<http://mises.org/money.asp> )

~~~
lifeisstillgood
If you walking into the saloon ready to play poker the proper way (you know, 5
cards, held in your hand) and every game at every table is mucking around with
Texas Hold 'em, it's no good saying you know the real value of poker - even if
you are right, and value is written into your spreadsheet.

Never ignore Keynes' rule - the markets can stay irrational longer than you
can stay solvent.

~~~
btilly
If you are able to afford to buy and hold, then it does not matter how long
the markets stay irrational - you've bought it and it should work out.

Where Keynes' rule applies in spades is when you are doing things like
shorting an overpriced stock. Now as the price goes up you keep on having to
put more money in, and should you run out of money you lose your shirt.

And about poker, there are a lot of variants of poker out there. Texas Hold
'em is what everyone is playing because it has the combination of more
strategy and thinner edges. So good players have a real challenge figuring it
out, and weaker players have a better chance of walking away lucky on any
given night.

~~~
prodigal_erik
Without dividends, there's no reward for buy-and-hold investing, and no reason
to pick companies that will actually perform well. Instead anyone who buys is
gambling that they'll be able to dump their position at a fortunate time,
which leaves them dependent on predicting the irrational market's _perception_
of the company's prospects.

~~~
yummyfajitas
Unfortunately dividends are double-taxed relative to cap gains/interest/etc.
Until that's fixed, we won't go back to the era of companies returning money
to investors.

~~~
btilly
Companies can and do return money to investors through stock buybacks. To
first order, it is the same as a dividend, except that only the investors who
want money get it.

~~~
yummyfajitas
To first order, stock buybacks are equivalent to dividends. To second order,
the IRS makes it complicated, as do regulators.

~~~
lifeisstillgood
What - really double taxed ? Do you mean dividends are paid out of post tax
cash, then taxed as income for the stockholder?

Just wondering

------
crntaylor
_A high frequency trader wants to jump in front of your trade and then sell
that stock to you._

Can he explain exactly how this is supposed to happen? Let's think it through.
You see a stock priced at B, and you decide you want to buy it. Cuban is
saying that a high frequency trader will see that you want to buy the stock,
and he'll buy it for B and then sell it back to you at B+X, making X in the
process (any you pay more for the stock). To do that, he'd have to know that
you were about to submit an order. But he only finds out about your order
_after_ you've submitted the order to the exchange, and the exchange has
relayed it to him. He doesn't get the opportunity to "jump in front of you",
and I have no idea why Cuban thinks he does.

In actuality, what happens is this. The high frequency trader sees that the
stock is priced at B if you want to buy it, and S if you want to tell it (with
B > S). He then expresses his willingness to sell you the stock at B-X (by
sending a limit order to the exchange). When you come along to buy it, you get
it at B-X instead of B, which _saves you money_. The trader gets a rebate from
the exchange for supplying liqudity (which he did, since you got the stock for
less than you would have otherwise) and hopefully he is able to buy it back
for some price around S (with another limit order), thereby making the
difference between B-X and S.

There are dangers with high frequency trading [1] but they are not of the kind
that Cuban is describing.

[1]
[http://en.wikipedia.org/wiki/Knight_capital#2012_stock_tradi...](http://en.wikipedia.org/wiki/Knight_capital#2012_stock_trading_disruption)

~~~
CJefferson
Except, that isn't all high frequency traders do.

They send in tens of thousands of requests a second, many of which they have
no interest in ever being forfilled, in the hope of partly fooling other
people, who are sending around similar numbers of requests.

Stock exchanges have turned into a high-frequency war-ground, which
fortunately doesn't appear to spill out and effect the rest of us too often,
at least as far as I understand.

~~~
crntaylor
Most exchanges that I have experience of have a minimum trade-to-quote ratio,
i.e. at least a certain proportion of your quotes have to turn into trades, or
you'll be warned and eventually kicked off the exchange.

In any case, to the 'end user' (a regular stock investor like you or me) the
continual jockeying for position among HFTs doesn't matter - all we notice is
that we pay smaller spreads and get our orders filled more quickly.

 _Sometimes_ the trading games spill out into the 'real world' with unpleasant
consequences, but those instances appear (so far) to be rare. I think there
needs to be tight regulation on HFTs to limit behaviour like quote stuffing,
spoofing and other forms of gaming, but I don't agree with the argument that
they are a net bad thing.

------
tptacek
It is really easy to convince nerds that Wall Street is fundamentally corrupt
because of the exploitation of exotic sounding technology, like "high
frequency trading".

The reality is that the vast majority of the damage Wall Street inflicted on
the US economy had nothing to do with electronic trading. Until someone
invents High Frequency Lawyering, the bulk of the work involved in trancheing
collateralized debt instruments is going to be paperwork. Those instruments
are traded OTC. While there are electronic markets for some of them, like
swaps for blue chip companies, those markets have nothing resembling the
volume of the NASDAQ. The '07-'08 crash was caused by evil phone calls more
than evil computers.

The other thing you'd want to understand is that prior to electronic trading,
Wall Street was crooked as a bucket of fish hooks. Before retail electronic
trading, if you (you meaning _anyone_ who didn't work for a trading firm)
wanted to buy or sell a stock, you had to find an agent to execute the trade
for you. As you can imagine, most people have call to engage an agent very few
times a year, but agents work with each other all the time. You got worse
prices because your orders would quietly be routed through the channels that
secured the most grift for your broker.

There are bad things about HFT; for instance, they create an incentive to
route very strong CS talent to Wall Street instead of Google. But before you
decide that HFT must clearly be evil because it allows the Goldman Sachs of
the world to get better deals than mom and pop stock traders (which, note to
mom and pop: don't _trade_ stocks), you should probably have a very good idea
what a continuous double auction is, and what a market maker does, and have a
good idea of who the "big fish" in HFT are actually preying on. It probably
isn't your pension fund.

~~~
Evbn
Tangent: DMCA takedowns are High Frequency Lawyering.

------
hodder
Why is there such a witch hunt against high frequency traders? I understand
the brain-drain argument, but I fail to see a direct negative impact on
regular investors.

-High frequency traders provide liquidity enabling me to transact with slightly lower spreads. While narrow spreads may only provide a marginal benefit to the markets, how is it harming you or I?

-High frequency traders hardly impact my investing decisions. Has anyone here been burned by a high frequency trader? If so, please share your experience.

-I am unaware of any academic research concluding high frequency trading has caused harm to individual investors.

-The flash crashes that have occured, appear to have been temporary in nature, and therefore have had zero impact on real investors.

-Don't use market orders if you are afraid of getting a trade executed at an irrational price.

-if PG, KO, or similar crashes for a few milliseconds as a result of high frequency trading (which may be a dubious claim) how does that hurt you? You may have the opportunity to temporarily exploit a mispriced security and buy shares of a company at a lower price.

~~~
lmm
>Why is there such a witch hunt against high frequency traders?

There's a decent chunk of jealousy involved; I think it's mostly the way they
seem to be making a large amount of money while not doing any "real work".
Compare the general attitude towards lawyers.

------
mattmaroon
Cuban is just griping about something he doesn't even understand here. There
was a great article about it here a couple months back. There is value to HFT.
It creates liquidity in the market. It doesn't make long-term investing any
different at all. It's just an automated version of the same market making
that's been done manually for decades.

Wall Street has a lot of problems. Computers making markets instead of humans
isn't one of them.

------
dawernik
Love Cuban, but his target is program trading, not Wall Street. And trading
serves its purpose as it makes the market more efficient. Arbitrage
opportunities will always narrow or close over time.

His argument is like saying that someone that buys and sells used cars has a
big advantage over me the consumer, therefore buying a car is rigged. I know
that implicitly, it's the friction of low transacting.

~~~
uptown
Someone buying and selling used cars doesn't have the ability to crash the
entire car market negatively affecting everyone that currently owns a car in
the same way that high-frequency trading can with the stock market. I don't
think your analogy works.

~~~
dawernik
Those crashes primarily impact professionals... I'm not familiar with any
enduring crash with sustaind impact to retail investors. I'm sure the value
created by tightening spreads and creating volume dwarfs the cost of a
momentary crash that impacts other professional traders (and a small fraction
of retail traders).

I'm not saying that high frequency trading isn't shady, but it also serves a
purpose. And I don't think the objective is to crash a market, it's to make
money. These traders don't want scrutiny, so they are personally motivated to
maintain order.

~~~
adambyrtek
Individuals are also affected by decisions made by professional traders (e.g.
mutual or retirement funds). Maybe crashing the market is not the objective,
but it could be an unintended consequence, and the only real motivation is
short-term profit, not "maintaining order" in fear of some hypothetical future
regulation.

~~~
dawernik
When did the length of the period of speculation become the moral compass for
whether someone should be allowed to put their capital at risk.

I still think that everyone is missing a key point. There is huge value in
programatic trading. The frequency of a crash with impact to retail investors
(not traders willingly risking money speculatively) relative to the volume of
spread tightening trading approaches zero.

~~~
adambyrtek
It was not my intention to claim whether high-frequency trading is "good" or
"bad". To be honest I don't think I have enough information to judge that. I
just replied to your specific arguments which I considered wrong.

That said, I agree that rejecting algorithmic trading just because it's new,
different, and scary doesn't seem like the best approach. Computers have
disrupted most industries, and the financial industry is just one of them.

------
ShabbyDoo
"It is getting increasingly difficult to just invest in companies you believe
in."

So, let's say that Mark's right and the combination of HFT and emphasis on
macro trends has caused some securities to be mis-priced compared to his
analysis of their long-term prognoses. As a long-term investor, shouldn't he
be delighted for the opportunity to bargain shop? If anyone can stay solvent
longer than markets stay irrational, it's him.

------
mayukh
There's a difference between retail trader and retail investor. If Joe Schmo
is a trader, looking to earn profits in the short term (days, weeks, < 6
months), the odds are heavily stacked again him, with HFT (i am kinda in
agreement with Cuban there). If Joe was an investor, seeking out good
companies and buying stocks with the intent to hold on to them for the long
term (1 yr+) then HFT should have lesser impact. Ofcourse an investor could
have made the wrong call, but then the outcome of a stock moving up or down
over the long run should be related to the actual performance of the company
in the real world, not some alternate universe dominated by hft algos seeking
arbitrage opportunities.

~~~
JumpCrisscross
Individual investors outperform the market over a 20 day holding period and
that "these patterns are consistent with the idea that risk-averse individuals
provide liquidity to meet institutional demand for immediacy." The expected
return for an individual investor deteriorates as time horizons get shorter
_and longer_ than 20 days, with professional traders dominating individuals at
the shorter end and professional investors at the longer.

[http://archive.nyu.edu/bitstream/2451/26930/3/CFE-04-04.pdf....](http://archive.nyu.edu/bitstream/2451/26930/3/CFE-04-04.pdf.txt)

------
ChuckMcM
Sigh, I like Mark Cuban, its fun to watch him on Shark Tank but I don't think
he makes a good case here. The financial markets have several ways in which
people use and/or exploit them. One of the ways people use the stock market is
for investing, one of the ways they use the market is for 'trading' which for
all intents is extracting value out of the first (or second) derivative of
market trades.

An analogy (weak but serviceable) is that a home town bank is for "saving
money", you save your money, you deposit, you write drafts against your
deposits that other people can use to make value limited withdrawals. Oh and
the people in the bank? They also have a business where they take your
deposits and they loan that to people who need money now and can repay it in
the future. But to do that they have to do 'magic math' and figure out how
likely it is that this borrower will pay it back and they do that with an
interest rate. Now the bank, like it has from the beginning of time, is
"making money using your money and dealing with people who will pay to borrow
it."

Interestingly this exact same works on Wall street and with 'investment
banks'. You "invest" (equivlaent to making a deposit) and instead of a chit
that says you have $1000 on deposit you get one that says you have ownership
of 50 shares of stock in AT&T. Guess what, the bank doesn't just sit on a
bunch of stock certificates, they have _another_ business where they let other
people use those shares on the agreement they can always get back 50 shares to
give to you if you decide you want the certificates to put in a safe deposit
box or something. One customer is 'investing' and one (possibly different)
customer is 'trading'.

Guess what you can do this with anything of value, and if its something
someone consumes you call it "commodities", if its currency you call it
"banking", if its stocks and bonds you call it "investing", and if its gossip
you call it "journalism."

Mark is smart enough to know this, so why the blog post?

My guess is that a lot of people don't like high-frequency-trading because
_they can't afford to play._ What has happened is that a large holding
company, fund, or bank with programmers and computers and data center space
near the exchange can easily _out trade_ someone trying to do this through the
e-trade Web API. I get how that could be annoying to someone who used to make
money that way, tell it to all the folks who used to be able to make a class A
game title with a couple of programmers and an artistically inclined person or
two.

~~~
nirvana
My opinion is that Mark Cuban works hard, but he's opinionated most in the
areas where he knows the least. He is not an authority on anything, except
maybe sports team management. He got lucky selling a shell of company to Yahoo
(a fool of a buyer) in the dotcom boom.... but his performance on shark tank
and on his blog tell me that, he's confused his luck with talent.

~~~
nancyhua
Agreed. He's entertaining and probably smarter and more focused than 99% of
people but his poor arguments make me think he's not a precise thinker and
isn't mentally flexible. I wonder if he'd be able to answer this question:
What would he have to be persuaded of to change his mind on this topic? (I
wonder what everyone including myself would answer to this question.)

I wonder what his motivation is. Is he upset by poor performance in his
personal account and wants to blame someone? Does he buy the shockingly
confused media hype? Is he threatened by something he incompletely
understands? Is he doing it to get even more attention? Is he trying to seem
intelligent or gain even more status by jumping on a bandwagon to criticize a
popular scapegoat?

------
debacle
> or changing the capital gains tax structure so that there is no capital
> gains tax on any shares of stock (private or public company) held for 1 year
> or more, and no tax on dividends paid to shareholders who have held stock in
> the company for more than 5 years.

A complex tax structure ignores the bottom (who pay very little tax on income)
and only harms the middle. The top earners in any system with a complex tax
structure have the capital and the assets to make it worthwhile to design
vehicles that shield them by exploiting these complex tax rules.

------
adambyrtek
The analogy between hackers and traders is interesting, but the argument would
have been even better if the author hadn't assumed that hackers have to be
criminals:

"A hacker wants to jump in front of your shopping cart and grab your credit
card and then sell it."

On the other hand, looks like we've already lost this fight.

~~~
platz
Yep, I came here to post this exact sentiment.

------
programminggeek
HFT, brokerage houses, and wall street in general is about providing the
service of being a middle man and profiting from standing in the middle of a
transaction. Traders via automated machines or human beings facilitate a
transaction between a buyer and a seller. That's the business. It's not about
providing capital or whatever else people think it is, it's about being
basically a sales agent.

Before computers, Wall St. was still largely about trading and standing
between people who have money and people are willing to trade ownership for
money. That's it.

The problem is that HFT is about profiting on even the smallest trades, but
cranking up the volume to 11. It's kind of like what Wal-Mart did to retail,
they make less money per item, but they literally make it up in volume.

Algorithmic trading can be slow or fast, but it plays off the fact that
machines can compute the data and make a decision faster than humans can,
especially on a digital marketplace.

It is unfair to human traders, sure. But, you have a digital trading platform,
so at some point it's impossible to stop algorithmic trading.

If you want a market where the purpose is to create capital for businesses
without dealing with machine trading, you need to start a new market that is
not run by machines and is only operated by human, person to person trades.

~~~
drawkbox
I am not usually a fan of regulation but his 10c tax for trades in less than
an hour may help this out big time. It really is just like API throttling so
people or consumers don't abuse the systems for all. Then again day trading
and hedging is a big part of investment portfolios now and this would change
things big time.

 _Whether its through a use of taxes on trades(hit every trade on a stock held
less than 1 hour with a 10c tax and all these problems go away), or changing
the capital gains tax structure so that there is no capital gains tax on any
shares of stock (private or public company) held for 1 year or more, and no
tax on dividends paid to shareholders who have held stock in the company for
more than 5 years._

There are probably some edge cases where a time based tax would be a problem
but for the most part I think it would drastically reduce the HFT skimming.
Then again, if you are making money on the market you are probably doing the
skimming.

A big problem for markets is weak or too many short term investors, they can
create a snowball effect. HFT trading algorithms are very short and can create
flash crash windfalls. Luckily they can also buy up when those things happen
and the whole thing is over in a blink but that seems too risky. What happens
when all the trades are by HFT algorithms? Eventually if those make all the
money then everyone will use them all the time. Where are the long suckers
then?

------
Tipzntrix
I gather that Mark is upset that HFTs use stocks as pawns and resale
merchandise here. Essentially, HFTs buy stocks just because the supply and
demand numbers look right. These algorithms most likely don't do research into
the background of a company, they don't do character checks on executives, and
they don't look at what kind of expertise the staff or board has. They just
look at the buy/sell rates historically and take advantage of good
opportunities. They're essentially middlemen in between the buy and the sell
rates, and feel a lot like retail stores. You could almost compare them to
Wal-Mart. Get whatever the hell goods they can, give a better rate than anyone
else, sell to people who actually want the goods. However, they are not buying
stocks as a sign of faith in the company, which is what I think Mark Cuban
believes is the real point of the stock market.

------
BenoitEssiambre
In the past few years, I've been a fervently anti-bank corruption, often
aligning myself with the occupy wall street crowd. However, unlike most people
with my views, I see algorithmic trading as not a symptom of, but one of the
solutions to the problems in investment banking.

Maybe it's because of my background in machine learning, but I view computers
as a way to reduce the amounts of arbitrage opportunities and insider
knowledge that can be exploited by traders to enrich themselves on the back of
others.

Well programmed computers are able to use NLP techniques to read thousands of
news articles, reports, financial statements, government data, demographic
data , analyse millions of data points, sort which ones are important, build
predictive models, and do it all in a few seconds of time.

A few computers can do the job of thousands of traders, do it with less bias
and with better mathematically proven decisions.

Nowadays every time a human trader tries to beat the market by predicting
short terms swings in prices, there is a computer on the other side of his
internet connection that is relying on much more information and even models
of the human's own personality and biases to trade against him. This means
that unless the human has inside information that is not accessible to the
computer, (and I'm sure those who operate these computers try to feed them or
make them infer the greatest amount of direct or indirect insider knowledge as
possible ) it will tend to be impossible to beat the market.

With the greater amount of information, the computers will keep the prices
closer to real world fundamentals, bust bubbles before they inflate and reduce
all the price swings that traders used to be able to exploit to make a profit
on the back of less sophisticated investors.

By making obsolete the jobs of all these traders, they are making the market
much more efficient. They are automating a kind of job that didn't produced
any real goods. Hopefully, pushing these people into jobs that make something
real instead of skimming the top of everybody's retirement savings (I can see
why those who want to be traders would be upset about this).

Ah but you say, all we have done is replace humans from skimming our
retirement savings by machines that do the same. This would be true if there
was only one computer system competing against the human traders but there is
a whole industry and they also compete against each other. Two sophisticated
machines that trade against each other, will not only beat the human trader
and put him out of business but reduce the arbitrage opportunity and margin
each of these computer systems can exploit.

Contrary to what the article states, computers that compete against each other
will tend to eliminate all short term unjustified price swings and leave only
accessible prices based on real company fundamentals. Only long term traders
that bet on fundamentals will be able to make money and they will make more
money than when they were subject to be exploited through market distortions
and bubbles.

This can all be proven by something called the efficient market hypothesis:

There is a great explanation by Glen Whitman of Agoraphilia, that uses grocery
line wait time predictions as a metaphor:
<http://agoraphilia.blogspot.com/2005/03/doing-lines.html>

See also:

<http://lesswrong.com/lw/yv/markets_are_antiinductive/>

<http://en.wikipedia.org/wiki/Efficient-market_hypothesis>

~~~
Ntrails
I find this idea that all the investment managers in the world exist simply by
skimming off peoples retirement savings mind boggling.

There are two main kinds of retirement savings, those where the retiree is in
control of where their money goes - in which case they can choose to invest it
as they wish. In an index, a company or anything else, and those where a
company is investing on their behalf but with a legal obligation to pay out.

Now, if the company goes bust then that is not the fault of HFTs or managers
skimming. Either they failed to make adequate contributions or they simply
went bust because the business failed.

If you invest your money in ACTIVE MANAGERS then you'd best know who they are,
what they do, and why they think they can win in a negative sum game. By
definition very few actually can.

HFT is not the cause of pensioners going without - that is a combination of
lack of contributions (based on unrealistic expectations) and poor investment
decisions. They don't prevent you from spending all your money on Apple shares
and making a killing, and nor are they to blame if you invested in Northern
Rock and lost everything.

It is a fact that more money is spent on portfolio transaction costs for large
pension schemes than any other cost. It is also true that much of it is
unnecessary. But these are functions of investment choices based on active
management, along with poor implementation and usually high management
turnover.

~~~
Retric
What a lot of people are missing is "the market" can't grow faster than "the
economy" over the long term. There has been a huge influx of money into the
stock market as an increasing percentage of people hoping for historical
returns. Causing people to chase after ever lower returns. It's gotten so
distorted that the 'smart money' practically ignores growth in favor of other
games.

HFT is the perfect example of this as they don't chase growth. There goal is
to tax cash flows and market inefficiency. So, they leave low churn stocks
like Berkshire Hathaway alone in favor of cheap stocks with a lot of turnover.
If you keep your stock for an average of 10 years then HFT is meaningless to
you. But, with hedge-funds often doing quite a bit of trading they can extract
money without you realizing your trading.

In the end it's yet another reason 401k's are growing a lot slower than many
people predict. Sort of like how people expect the economy to 'recover' when
it was what there remembering is an unsustainable bubble.

PS: And of course Dividends are something of a special case in the above
analysis.

~~~
ypeterholmes
I disagree that the market can't grow faster than the economy. Derivative
markets for example.

~~~
Retric
Note: over the long term

Compound interest is an exponential equation. Even 1% growth means doubling
every 70 years and 1,000x growth every 700 years and 1 million x growth in
1400 years etc. Let's say US GDP is X$ and stocks are 'worth' a 100,000 X. At
some point the market get's so far from the 'fundamentals' you get a crash,
but it's more like a return to rational behavior.

PS: That's not to say tax breaks like 401k's cant shift things for decades.
But, there is only so far you can inflate any bubble before it pops.

------
chernevik
This sounds like liquidity is a bug rather than a feature, because those
secondary trades don't send capital to the companies. But that liquidity is
part of why the primary capital went into the company, and that liquidity
supports a flock of risk management and information signalling functions. So
I'm not sure why the focus on liquidity per se.

Given that the rejection of HFT has to be overbroad. If they liquidity they
provide is the sort of that supports the functions we like, who cares what
their holding periods are?

It certainly seems true that Cuban is right about "hacking" the market insofar
as yeah, a good deal of HFT sounds like exploitation of rules and procedures
to avoid creating the fair market intended. But that means there is "bad"
liquidity, which doesn't serve our purposes. Okay, so let's write rules that
better serve our purposes for liquidity. (And if we're worried about market
distortions from bad trading liquidity, what about the market distortions from
Fed provision of currency liquidity? The wash of cash has lifted all asset
prices, it's hard to see economic signals when price correlations are moving
to one.)

Cuban seems to think we can do just that by manipulating investor incentives
-- give them tax breaks for holding periods, tax transactions, etc. But all of
these just make the market more complex, and increase the differential between
investment categories -- all of which creates more incentive for financial
hacking and further detaches pursuit of financial return from realization of
economic return. It makes the rules less comprehensible. And it gives the
politicians and regulators more to do in the markets, which makes them more
attractive targets for lobbyists. He's increasing the incentives for soft
corruption while making it harder to spot, the consequences are easily
predicted.

Cuban is a smart and pragmatic guy with billions of reasons to think himself
smarter than the average bear. Part of his smarts are an ability to keep it
simple, and an instinct when things are out of whack. But here that instinct
have lead him through simple on to simplistic.

------
signalsignal
Mark Cuban is only human, and I was wondering why he seemed to take that huge
Facebook loss so lightly.

------
Tycho
I read an interesting claim in a book about economics recently: that Wall
Street wasn't an industry, but a monopoly.

The argument was that in a normal industry, companies in competition with each
other benefit when a competitor goes out of business. Other firms step in and
snap up the opportunities. But with Wall Street, the whole network of
companies needs a government bail out to stop their wholesale collapse when
one company gets into trouble (eg. Bear Stearns, Lehman Brothers). Thus they
are not really an industry of competing companies, but should be seen as a
single monopolistic entity.

(of course they are filled with competitive people, but think of how
departments and employees within the same company compete with each other)

------
hooande
HFT is gambling, pure and simple. I bet the price is going up, someone else
bets that it isn't. Personally, I don't have a problem with gambling and I
don't care if other people do it. It certainly sounds sketchy, given that they
are using millions of dollars of other people's money. But they know the risks
and they do a decent job of managing them. This is no harm, no foul.

I think part of the point (maybe Cuban's point) is that gambling isn't helping
anyone, either. Financial markets were designed in theory to get capital to
the right companies. HFT is a lot like a Native American casino...there was
something much more profitable to do with the real estate than it's intended
use.

------
jimdanz
What is this guy's deal? He posted almost the exact same blog post over a year
ago. [http://blogmaverick.com/2011/08/08/what-business-is-wall-
str...](http://blogmaverick.com/2011/08/08/what-business-is-wall-street-in-2/)

------
pedalpete
`It is getting increasingly difficult to just invest in companies you believe
in.`

I disagree with this. How many people believe in Apple as a company and
invested in it's growth over the last 8 years. Or Target over the last 3 and
there are many others.

The challenge as I see it is that it is very difficult for the companies to
actually leverage the growth in their stock prices. The companies need to buy
and sell their own stocks in order to use the money as investment. Unless I am
missing something huge here. Most of the time it seems it is only an incentive
to management that the stock price increases. But really, the capital isn't
invested in the company, it is gambled on the company.

------
lifeisstillgood

       However we need to do it, we need to get the smart money
       on Wall Street back to thinking about ways to use their  
       capital to help start and grow companies. 
    

This is the meat and potatoes quote. Founder Visas, Ycombinator, Disrupt, the
death of VCs, the new VCs, all of these do shout that someone has dropped the
ball, and a new breed of investors have picked it up.

I still look at Prof. Sadoway and think how will he get the investment he
wants from US markets. Its either VCs, Green Funds or soverign funds making
all the running - the business of creating new businesses seems to have fallen
out of favour.

Proof - none that you can speak of, except for my bones.

------
pixie_
There is little productivity created in the wall st business. As the author
states little of what Wall St does is raise capital for companies. Mostly it
facilitates trading stock which is basically people trying to make money off
of other people who have enough money to buy stocks. You buy your 'chips' and
trade them and hope to make a profit. As far as the rest of the economy is
concerned, little productivity is created from this action. It's as productive
as gambling is, which would be analogous to Wall St's true business.

------
JumpCrisscross
Wall Street's business is _facilitating the capital markets_ , not "creating
capital". Equity underwriting, a white shoe Wall Street activity, involves
simultaneously facilitating a series of transactions we call an IPO. Creating
capital is not really anybody's job - you can create capital/money by agreeing
to take an IOU in lieu of cash for services rendered.

Also, Wall Street != algo/program/high frequency trading. That area of the
capital markets, which requires sophisticated market infrastructure to exist
in the first place, is exceedingly small by headcount and profit share.

>" _The best analogy for traders? They are hackers._ "

Traders _are_ hackers, and so are entrepreneurs. The kind that likes to tinker
with data, play with mathematical models, and find nuances previously un-
noticed or empirical anomalies irrational. The dream is to, in the process,
find a way of modelling phenomena presently deemed unpredictable, i.e. to
discover something new.

>" _Discussion in the market place is not about the performance of specific
companies and their returns. Discussion is about macro issues that impact all
stocks._ "

Adam Smith didn't write about economics, he wrote about the political economy.
The post-War trend of having a secular divide between politics and markets is
historically unprecedented. Discussion has shifted because the salient points
have shifted; beta is dominating alpha. A visual could be a slick of oil on
top of an ocean - the oil is company-specific factors and the ocean the
general market. In calm seas just watching the oil is fine. If you're in a
Hellenic thunderstorm, however, the dominating factor is the rolling waves.
Don't blame someone else because your model is obsolete.

>" _I would be curious if anyone out there knows what percentage of
transactions actually return money to a company for any reason_ "

I'm not sure what this means, so I'll take it as what percent of revenues came
directly from capital raises (IPOs and debt offerings). This supposes that all
other functions at the bank, e.g. asset management, making markets in stocks,
providing brokerage and execution services, etc. are useless. From their
latest GS 10-Q [1] we see that they earned $1.4 billion in underwriting for
the first half of 2012. Not including net interest income their revenues for
the same period were $14.5 billion; thus, underwriting represented 10% of
Goldman Sachs's revenues for the first half of 2012. As a percentage of
transactions I'm not sure how you'd work this out (is an IPO one transaction?
Multiple?) nor what use it would be. For reference, underwriting represents
nothing of Blackrock's or Bridgewater Capital's revenues.

>" _Wall Street as a whole needs to be in the business of creating capital for
companies and selling shares to investors who believe they are shareholders._
"

A healthy primary market cannot exist without a healthy secondary market, i.e.
the success of an IPO, and whether it happens in the first place, is strongly
related to how investors feel about being able to sell at some point down the
road without incurring losses.

Let's examine the connection between holding term and governance mentality.
The FT recently had a piece documenting that institutional investors, who own
roughly 70 percent of U.S. stocks, despite having long-term positions and near
total voting control, tend to by default vote with management and not
participate in corporate governance [2]. Resolving our public capital markets
is more complicated than fuck the facilitators; ape-handedly throwing taxes
around before thinking through the consequences, intended and otherwise, isn't
smart (though it will evidently get your article views).

\--

High frequency traders, in a race to the bottom, are in the short-term being
run into the red by firms that trade time-consuming safety checks for speed.
In the end the bad drives out the good and the market de-stabilises. The
solution to this is having a series of pre, inter, and post trade checks that
have to be run, e.g. monitoring the total dollar volume of trading over a time
interval or the total dollar amount lost mark-to-market (yes, there are firms
that took these functions out of pre-trade verification to save a few
milliseconds). This puts a natural and non-arbitrary speed limit on the
markets which accomplishing something meaningful in that time beyond feeling
good about having conducted a witch-hunt.

[1]
[http://www.sec.gov/Archives/edgar/data/886982/00011931251234...](http://www.sec.gov/Archives/edgar/data/886982/000119312512344636/d365261d10q.htm)

[2]
[http://www.ft.com/intl/cms/s/0/e19b6a54-fbf8-11e1-aef9-00144...](http://www.ft.com/intl/cms/s/0/e19b6a54-fbf8-11e1-aef9-00144feabdc0.html#axzz26tJrjGeO)

------
eldavido
Wall Street sells trust. Trust that, for the one time you want to take a
company public in your life, that it won't get screwed up. Trust that they'll
repay the billions (trillions?) of commercial paper loaned nightly over the
phone, day-to-day, to the commercial banks, which they use to pay interest.

Technology is the last thing Wall Street sells.

------
godisdad
An interesting company in this space trying to return control to the investor:
<https://www.secondmarket.com/>

A talk by the founder at Stanford: <http://www.youtube.com/watch?v=jH-
wyaS2Rn0>

------
javert
Mark Cuban, go create your own exchange where you set the rules, or STFU.

That's why we live in a free society.

There is no valid reason or excuse for putting a gun to someone's head and
telling them, "stop trading or else," which is what you keep insisting on.

~~~
SeanLuke
You're saying that the stock market has no effects on society?

~~~
twoodfin
Everything has an effect on others. The question is whether those effects are
the result of voluntary actions. As far as I can tell, nobody is being forced
to invest on Wall Street. Everyone is free to keep their money in gold or
under their mattress.

Now, if everyone chose to do those things, that would have a _huge_ negative
effect on society, massively greater than anything Wall Street has ever
inflicted. But that doesn't imply we should regulate how much people are
allowed to buy gold or stuff their mattresses.

~~~
rayiner
"Forced" is something that has degrees. When we replaced private pensions with
401k's, and when we got rid of the firewall between commercial and investment
banks, we made it very difficult for anyone to not invest in Wall Street.

~~~
twoodfin
Private pensions didn't invest on Wall St? That's news to me.

------
sowhatquestion
Some excellent points here, but his conclusions seem to be severely limited by
self-interest and/or nostalgia.

"Individual investors and the funds that just invest in stocks and bonds are
not going to crash the market."

So what happened in 1929 then?

------
mcantelon
Animated GIF showing, visually, how HFT has impacted the overall flavor of the
market:

<http://imgur.com/DxWer>

------
boh
Great article explaining high frequency trading:

<http://www.economist.com/node/21547988>

------
malandrew
I've read this piece before, but it's dated Sept 21st, 2012. What's up with
that?

------
plc
It is not a zero sum game between you and HFT. It IS a zero sum game between
an HFT firm and another HFT firm, or an HFT firm versus people specialist
traders. You think that burly guy from queens who used to be a janitor and now
works on the floor of the NYSE will give you a good price? HFT cuts the line
in the sense that it competes with him to give you a better price. HFT firms
are fast to compete for your business vs other HFT firms. HFT and the average
retail investor is not a zero sum game. It is mostly zero sum between HFT and
the old system of specialist traders. It turns out the biggest critics of HFT
are the old specialists who have lost their jobs and people who do not know
what they are talking about.

So say you trade against an HFT algorithm. If you are talking about the narrow
context of the trade, it is zero sum. But that is not how the world works.
Bill Gates can sell a share of Microsoft to a market maker trader/HFT. Say he
does this for $26.00. Tomorrow, it goes to $30.00. In the context of the
trade, Bill Gates "loses" $4 to the HFT algorithm. But that is not the whole
story. He took that $26 and did something with it. Maybe he helped fund a
startup which has created value and doubled his money. So now the HFT trader
is up $4, and Bill Gates is up $26. Zero sum, huh? Or maybe he invested it in
a Malaria vaccination program that has no easy dollar valuation but is clearly
positive to the world. This is why in the context of the system, everyone can
win, and it can be a positive sum game.

If you invested your savings 18 years ago for your kid to go to college, at
some point you will sell that stock to raise cash and pay for college. You are
investing in your child's education, so that he can have a good life, invent
things, cure cancer, solve P vs NP, improve Shor's algorithm, and more. That
seems like a good return, even if 4 years later the HFT algorithm you sold
your stock to made money because the stock went up.

When the world changes, prices change as well. As an HFT firm, you are always
sending prices that are competitive for customers. HFT being fast is the
effort to improve prices as quickly as possible, or admittedly, pull prices if
they are no longer fair. Often, this is a typical scenario for an HFT
firm…news comes out on a stock that is positive. The old bid for the stock was
20.00. That means if you are sending an order to sell your shares in the
stock, to say, raise money to send your kids to a good college, you will hit
the bid at 20.00. If HFT is not fast, you will get $20 for your share, even
though the news hit 2 seconds ago. HFT algorithms compete for your business in
the sense that they try to be fastest to improve that bid price to 20.05. If
they are not fast, you get $20. If they are fast, then you get $20.05. What is
the problem here?

The bottom line of all this misunderstanding is, I believe, a distrust of
where all this money is coming from that they make. It's simple--it's from
them cannibalizing the old human, specialist trader business (do you know how
many billions they made from retail before HFT?). It's no different from a
startup upending an old industry veteran by undercutting their prices by 90%
and taking away all their business.

------
scotty79
I'm pretty sure that's the same business Las Vegas is in.

------
rsepassi
Mark Cuban has touched on what is at the center of why financial regulation is
so difficult: the roles, values, and differences of the primary and secondary
markets.

All of Wall Street exists to do one thing: connect those with capital to those
who want it.

The primary market exists to do what Wall Street is meant to do: a company or
other entity wants money, an investment bank connects that company with
investors, and investors hand over the money. Wall Street acts as a classic
broker, executing the function it was meant to perform (match those with
capital to those who want capital). For its services, it takes a cut.[1]

This part of Wall Street - the primary market - works reasonably well and
there aren't many complaints about it.[2] In fact, people sometimes complain
about the IPO market getting too hot, which really just means that more
companies in the real economy are getting money. The biggest ongoing
complaints about the primary market are that the big banks charge too much for
the capital raises and that they hype up the securities. Neither is a
particularly cutting complaint though, nor is either issue crippling in any
way to the capital markets.[3]

This brings us to the secondary market - the stock market as most people know
it. Most people never participate in the primary market (i.e. in the first
sale of securities), but rather in the secondary market. Here's the core
question: WHY DOES THE SECONDARY MARKET EXIST?

The secondary market serves a support function to the primary markets. It
provides "liquidity" to the primary investors - that is, it gives them a
reasonably easy and cheap way to offload their shares should they choose to do
so. The idea is that if there's a ready secondary market for the shares,
primary market investors will be more willing to participate in deals because
they know they can get out quickly and cheaply if they want to, and they'll be
willing to pay a higher price for the shares for the same reason. In more
technical terms, the secondary market serves to increase the flow of capital
to companies and lower the cost of capital for companies.

And this is where all the problems Mark Cuban is citing come in, plus all the
problems that financial regulators were trying to deal with in the last
regulatory push (Volcker rule, Glass-Steagall, etc.).

The main issue here is that you can't really draw much of a line between
"market-making" and short-term trading. Market-making is something most people
agree is a good thing - you want a healthy number of market makers competing
transaction costs down and providing sufficient liquidity (again, all to serve
the health of the primary markets). And short-term trading is something that
most people feel is a bad thing - it creates short-term thinking in the
markets, which usually flows over into the companies, so you have everybody
thinking about the next quarter, which leads people to ignore longer-term and
deeper issues. But both market-makers and short-term traders are just buying
and selling securities - it looks exactly the same. This is why the Volcker
rule is so ineffective. The rule stated that a financial firm could only have
a few percent of its capital in "proprietary trading," but every trader at any
financial firm knows that most of the trading (and most of the lucrative
trading) happens on the market-making desks. Buy a portfolio of illiquid
emerging market bonds at 70 cents on the dollar from an investor looking to
offload quickly, warehouse it for a few days, and offload at 85 cents. That's
market making. And it's also short-term trading. There is no difference. The
trader had to make a judgment about whether he would profit on the trade -
whether the price of the bonds would hold up until he could offload it, or
whether he got it at enough of a discount that even a move against him
wouldn't hurt him. He probably thought about whether he could hedge it while
he held it or if he could somehow line up a buyer before he even bought it. A
high frequency trader is technically doing the exact same thing - just buying
and selling; they just get very fancy about figuring out whether they'll
profit on the trade: fractional penny arbitrage opportunities, information
about where the price is headed in the next half-second, etc.

The best idea I've heard in terms of tackling this specific issue is to alter
the tax structure. Mark Cuban advocates this in the form of a 10 cent tax on
trades held under 1 hour. Another version I've heard is to levy a similar
penalty tax on any capital gains reaped on a trade held less than 3 months
(i.e. taxed as income plus a penalty; right now it's just taxed as income),
and to move the lowered long-term capital gains tax rate to gains on
investments held for more than 2 years (right now, long-term is 1 year). This
would certainly discourage short-term trading, but that would mean that it
would also make trading slightly more expensive for everybody, which some
people think would be a good thing in that it would make people think twice
before they traded something, while others argue that it would be a terrible
thing because it would hurt the smallest players (individual investors) the
hardest - after all, they're the ones who feel trading costs the most in
percentage terms (trading costs as a percentage of the amount they're
investing).

As a final thought, while all this trading and short-term thinking seems like
it hurts us in the long-term, I don't think this is where our energies should
be focused in terms of regulation. Trying to get people to stop short-term
trading in the market would be like trying to get people to stop going to see
movies for all the violence. Sure, it'd be nice if everybody thought like
Warren Buffett in the market, and it'd be great if everybody just wanted to
watch Stanley Kubrick films. But the important thing is not to get people to
be "better," but to ensure they can't cause much damage as they're acting on
their impulses. People like violence, but we keep guns away from them. People
like short-term trading, so we need to keep LEVERAGE away from them. If you
limit leverage, you limit bubbles and busts. It's that simple and that
difficult. Bubbles and busts will still happen because people will chase up
prices of some securities and then run for the hills once prices falter, but
you need to make sure they're just running and not rocketing. Leverage is that
rocket - limit it, and you've got the most elegant solution to the major
problems of the financial markets. Don't try to enforce good behavior; just
limit the power of bad behavior.

[1] Some people complain about the size of the cut that Wall Street takes for
these services. The cut is stable and large for 3 reasons: 1. There's an
oligopoly at the top. 2. The risks to a failed capital raise are huge,
financially and reputationally for the company raising capital, so they
usually opt to go for one of the few top players (protecting the oligopoly).
3. Like most large negotiated transactions, there are higher costs of doing
business (think cars and houses).

[2] In the primary markets, the area that probably poses the biggest danger to
the economy and society as a whole is when it gets into non-plain-vanilla
securities, i.e. stocks & bonds work just fine, but derivatives and other
instruments (like some asset-backed securities in the last crisis) get a bit
more tricky. But I'm going to leave those aside for now since Mark Cuban is
mostly addressing trading in the stock market and plain vanilla capital
raising.

[3] The costs have been pretty stable for long stretches of time without
seemingly barring companies from raising capital or making the capital raise
so prohibitively expensive that people don't participate. And on hyping the
securities, investors know that there's a financial relationship between the
company and the bank, and they're for the most part pretty aware of this and
therefore do much of their own research. All the major mutual funds and hedge
funds do their own research and know not to rely on bankers (to the point that
many portfolio managers ask that the bankers remain silent during meetings
with companies that are raising capital until the discussion gets to specific
deal terms, and if the company is not raising capital but just meeting with
portfolio managers or analysts, the PMs or analysts often don't even allow
bankers in the meeting room but ask them to wait out in the lobby or waiting
area).

------
its_so_on
i'm about to make a nuanced, technical argument, and i don't know if it's
correct. if you understand it, your feedback is appreciated.

so, i believe information asymmetry is possible. i believe that many good
ideas are in such a relationship with the world that the people who have them
have an asymmetric advantage over those who don't: that possession of the idea
equals wealth, as long as you are attempting to execute. (wealth in the net-
present-value sense, not liquidity sense.)

this gives you the interesting situation that you can be walking along the
road and, if you are the right person and respond properly, you can
immediately in a bolt out of the blue become richer by the net-present-value
of the idea you are just struck with: provided it is one of those asymmetric
ones and you proceed to execute on it.

now. now, for the larger ideas (like Google), the net-present-value was in the
millions. but if the people doing it had actually had millions of liquidity,
they would not have been coding: they would have hired a coder.

so please assume p, where p is "a person with a net-present-value of $n
million is currently coding something which will make money and then allow him
to hire coders. assume that with probability 1 he will succeed."

as he is coding, before he actually has succeeded, what business is he in
under p?

i would say he is in the information-arbitrage business. he is coding at
$0/hour against the net-present-value of the idea he has. it seems to me kind
of an arbitrage thing.

this is assuming p, which means that this is an assymetric condition where
with probability 1 he pays off. obviously it becomes more complex as we get
into probabilities other than 1 - but is this a fair conclusion about the
startup hacker?

that he is arbitraging information asymmetry?

as i mentioned at the start of this comment, this is a technical argument and
i'm not sure of its validity. any feedback is appreciated.

 _if you hate my assumptions (specifically, p) i still would appreciate to go
with them as well as any other thoughts you may have, which you can address
separately._

~~~
josephlord
I think I understand and don't think that you are necessarily wrong but I'm
not sure it is a particularly useful way to look at the world.

Enron was famous for booking predicted lifetime profits based on the ideas
that they had and look how that turned out. It isn't logically wrong but it
probably is too hard to do realistically, not just predicting the profits in
the first place but updating them with circumstances.

If your person had his bolt in the blue and became richer the moment he/she
heard about a competitor launching before them with a similar idea would
instantly become poorer (as they wouldn't have the market to themselves) and
they should remark their book value.

BTW without capitalised sentences and in stream of thought style I found this
really hare to read. I suggest you work on the presentation before explaining
it to anyone else.

~~~
its_so_on
sorry about the format, i'm intentionally trying to not so much to be
accessible as to reach certain people who might already know. i'd like their
feedback.

you are completely right that it's hard to peg the shift in present-wealth
without a crystal ball, which nobody possesses - moreover, the future isn't
even written.

so let's give you the crystal ball - it jumps wildly between valuation your
net-present at a few million and hundreds of millions and sometimes billions
and sometimes tens of billions and then millions again. it's useless.

but suppose that it is quite consistent that the idea is worth at least $20
million in net-present.

so, in this case - what is going on here when you, an only "competent" coder,
are coding the idea yourself? Why would a millionaire code at a quality he
could barely sell in the market (not being a coder), and which is just enough
to show a prototype which gets funding, which gets the ball rolling, which...
(all the things that lead to the net-present jumping between $20 million and
billions, but never lower than the former).

So, what is going on here? Why is the person working at $0/hr producing work
that's worth maybe $3-$4/hr? (buggy poor-quality spaghetti code php with no
source control, for example.)

He is also directly losing a wage he could be earning elsewhere.

what is this behavior? What is going on here?

one answer could be, couldn't it, that he's producing low-quality, poor labor,
because he has the chance to buy a chunk of a high-quality idea with it?

i mean, i personally know of a lot of stories of hundred-million dollar exits
that started with an idea that the founder started following up on by-

\- doing poor-quality accounting and business founding,

\- poor quality legal research

\- poor quality coding that had to be thrown away after his company was bigger

\- poor quality biz dev that was mostly spinning company's wheels

a lot of other things of very low quality...

... but of quality just high enough that the idea pulls the company through,
and his preconceptions can be changed by high-quality lawyers, his code is
thrown away and rebuilt by real engineers, his b2b attempts are repeated by
someone who can actually push deals through, his logo is replaced by a real
logo that doesn't make you laugh, and so forht.

so, what just happened in this whole last example? what was the beahvior that
led to it? (in abstract, theoretical, technical terms).

i want to know why he's buying his own low-price, low-quality labor, and why
this works.

~~~
josephlord
I agree with the logic but let me propose some additional benefits/reasons to
do it yourself.

Freedom from responsibilities to others (employees, investors) could allow
creativity.

Singular vision for the product without compromise.

No need to describe requirements to others.

Get a basic understanding of all areas while it is fairly simple before scale
up (accounting etc.).

Also the pure logical case only really works when you have enough cash to
invest yourself in building the business or you would have to put the effort
into finding and managing investors.

The low quality version might actually be a good investment in the shift it
makes in the external perception of value is sufficient.

~~~
its_so_on
thanks for these thoughts.

