I watched a very strange film, a comedy, called Kung Fu Mahjong [1] in which the central theme are ladies that play Mahjong. And what struck me, perhaps as a westerner, or perhaps it was intentional, was that everyone in the movie cheats in some way or another, and everyone knows it. It reminded me of the kinds of things you would read about in the HFT blogs and forums. You could make a 'Kung Fu HFT' movie with the same theme.
The bottom line is that I have very little sympathy for these guys. As the 'early release' scandal broke and then was documented it felt like more crap to shovel out of the door and not like any sort of progress toward a more durable system.
Thinking sideways is a natural thing to encourage. A particularly subtle and cunning piece of underhanded trickery, once the cards are on the table, is impressive and laudable. The real trick is to not be a dick about it; when you win, you need to learn to share your winnings, to communicate that it's just a game and it wasn't personal and you weren't trying to hurt the others.
The problem isn't that the banks and funds and such are cheating. The problem is that they're causing damage and failing to genuinely express remorse over that damage.
That the banks can "cheat" is indeed a problem.
Banks do serve a useful purpose - dont get me wrong. But i think lately, the value a bank is adding to society is somewhat deminishing, compared to the burden they weight. A bank makes its profit by "taking on risk" of loaning capital to someone who doesn't have it, and extracting the surplus generated by the capital (ala, as interest on the loan).
This is ok, as long as the capital is used to generate "real" wealth - that is, production of goods and services. I feel that at times, a lot of loans are not used to generate product and services, but to "gamble" (ala, stock market?, buying and selling as a middle man ?). The process a bank goes thru to loan money creates extra currency, and this extra currency, imho, is what causes inflation. In fact, so much of economic activity is now tied to bank loans, that a failing bank means collapsing a corner of a table.
But i have no solution - as long as the illusion of stability is maintained, the system works. When it breaks, its chaos, but so far, all chaos has been prevented by either bailing out, or some other form of tax payer funded activity. Meaning, some people/organizations are using this as an opportunity to profit as a parasite of this system.
Here, check this out:
http://publicbankinginstitute.org/
I'm not much of an advocate for this solution because, frankly, I don't understand it well enough. Insofar as I do understand it, I feel that it's worth supporting it, or at least being more widely considered. My lit review of reasons not to do it turned up no convincing objections (and I've asked different groups for help several times over the past 5 years).
Nobody is (or should be) mad with people trading on fundamental performance and clean, authentic risk-taking.
For instance, after NASDAQ went down for 3 hours on August 22, the SEC asked the NYSE and NASDAQ for a detailed timeline of events. Each exchange blamed the other. The SEC's response? It told the exchanges to cooperate and please fix the problem, declining to make any further public comment [1].
Trading at high speeds is like the wild west right now with little to no threat of law enforcement.
[1]http://uk.reuters.com/article/2013/08/27/uk-nasdaq-halt-nyse...
It's actually not super complicated. A limit order book is a straightforward thing. If you can do FizzBuzz, you can probably whip up a toy implementation of a matching engine in an afternoon. People think it's complicated because of all the FUD (c.f. the comments on this story), but the basic mechanics of how a modern exchange operates are remarkably simple.
I'm referring to market microstructure in terms of the complex interactions amongst exchanges, the impact of Reg NMS, etc. Obviously the underlying algorithms can be boiled down to simple components.
For those interested in learning something about market microstructure, I highly recommend "Trading and Exchanges: Market Microstructure for Practitioners" as an introduction to the basics:
http://www.amazon.com/Trading-Exchanges-Market-Microstructur...
I've heard that the financial interconnections are remarkably similar to ecologies. Would be interesting to get some more of that tooling for analyzing ecologies like fisheries available to financial regulators.
That is fantastically complicated. As you say, anyone can write a matching engine.
The tediousness could be relieved by centralising market microstructure documentation. But given the frequency with which we change rules, it may make more sense to have an expanded class of lawyers or risk managers who are dedicated to understanding and promulgating the documentation.
I wouldn't go so far as to say the SEC, Finra, or the Fed Market Surveillance teams don't have a strong handle on microstructure - they have smart people. The SEC's job isn't to manually fix problems. It would be troubling if every time an exchange went down the SEC felt compelled to issue a new rule.
How exactly are you arriving at your minor premise here? My reading is that other people want to compete, but are unable to do so effectively because of (alleged) cheating.
I think his premise is that people are mad because they can't compete because they don't have the resources (money) to do so. If they were able to execute trades as fast as the big guys, they would be perfectly fine with the practice continuing. Since they don't have the cash to compete they are upset because they see someone else making money where they cannot.
I imagine anybody owning a bike should be able to compete with UPS in delivering packages, and the fact that UPS owns a fleet of trucks, planes, warehouses and complicated logistics software just makes it all unfair. If only one would be allowed fairly competing with UPS by having them deliver packages as slowly as single guy on a bike, or alternatively if the government would create a bike that could fly like a jet plane - that would be fair.
I imagine one guy with a saw should be able to fairly compete with a logging company, and one guy with a bucket and trowel should be able to compete with construction corporation, and one guy with a screwdriver should be competing with Boeing and Lockheed Martin.
When that happens, I think we could take comparing a guy using etrade.com from his macbook with trading division of JPMorgan Chase. Until then - yes, they're playing in different leagues, as it always is in the world. There's nothing unfair about it.
Trickster hero.
They're present in every mythology the world over.
Assume the probability of a losing day is just .02 (i.e. 2%, which is rather good). A quarter has 60 trading days. Then
.98^60 = .297+
which means it happens just once every 3 times. But that is a magician doing business.
If the probability of a single losing day is .1 (one out of ten, good for humans, I guess), then the odds are
.9^60 = .00179+ (once every 500 times) =(less than once in a century)
So, really really spooky.
Of course "once in a lifetime" events happen quite easily in the Stock Markets, but they tend to be negative (Long-term Capital Management, today's crisis...)
Sorry (lots of edits because term=60 days)
I guess.
IIRC, obviously.
And in any case, all you have proven is that we can reject the null that the distribution of JP morgans daily returns this year, was different to the distribution of their daily returns in previous years.
Let's leave guilty-by-rejecting-the-null-in-an-artificial-model to the courts and not let their logic infect HN too. All that's been shown is that JP Morgan have had 0 days with a trading loss. No one has actually shown they did anything wrong, or even explained what they might have done wrong.
Traders do exactly this, it is the service they provide. It is quite unlikely that all the traders in a big bank are going to lose money on the same day.
(1) Banks carry hedged books. You expect to win more frequently than 49 out of 50 times if you're instantaneously buying and selling FX in different regions, or delta hedging an option book.
(2) The riskier assets also tend to be illiquid. This delays loss recognition, not necessarily out of deviousness, but because nobody realises the loan in question is a dud until someone tries to market it.
(3) Market returns are not i.i.d. They are correlated. This makes streaks more likely.
This is what Nick Leeson did which brought down Barings Bank, and what Jerome Kerviel did to SocGen. I'm sure it happens all the time.