Markets today seem to be designed for short-term investors

The impact of technology on trading stocks has reached such a level that regulators across the world are a worried lot. Most of them are not able to figure out how to track the changes in technology that has become harmful to long term investors, especially those who are putting their savings in mutual funds or pension funds. Today stocks are traded at a tremendous speed of 100 microseconds and some exchanges are investing into technology to further increase performance. Traders on the other hand are using technology to front-run stocks or sometimes put in false orders that ends up fooling serious investors.

Scott Patterson, an investigative journalist with the Wall Street Journal has tracked the impact of technology on Wall Street through his latest book Dark Pools. His earlier book, The Quants, talked about geeks and mathematicians on Wall Street. In Dark Pools he tells us a story about programmers, geeks and crooks, who have used technology to the hilt to make a quick buck on Wall Street. Scott Patterson spoke to Pravin Palande of ForbesIndia about the book and how he went about tracking the geeks on Wall Street. Some Excerpts

It’s not necessarily a bad thing. But in certain circumstances, the way the market works now — at least in the US — our rapid-fire cyberpunk market doesn’t always work for the benefit of the long-term investor. Instead, the market seems increasingly designed to benefit extremely short-term investors — we’re talking fractions of a second — which by necessity eats away at the gains of others. Short-term, high-frequency firms are scalping off billions in profits every year. That money isn’t coming out of thin air.

I expect them to do their job, which is to keep their eye on the market and give investors the reassurance that the cop is on the beat. I understand the skepticism but that doesn't mean that we in the media shouldn't hound the regulators to the end of the earth when they aren’t doing their job.

This is important. I am not universally against high-frequency trading. I think under the right circumstances it can be a benefit to investors, providing liquidity for efficient trading. Indeed, computer-driven trading is the future and there is no stopping it. What I am against is the insider privileges these firms get. Exchanges offer them many advantages in order to draw their flow. I also say that regulators need to keep up with these developments, and so far they haven’t. That needs to change.

Traders, short-term and long-term, absolutely need to behave ethically. That means — don’t cheat the system. Investors are jaded enough already. If they believe that they are being cheated, they’ll put their money elsewhere and that will hurt the ability of companies to raise cash on the capital markets. That’s why by bending the rules these firms ultimately are killing the golden goose — and themselves. They get too greedy.

No, I just think it’s a new twist on the same old story. But let’s not give in to pessimism and say it’s always been like this so what can we do. We need to stay vigilant.

I don’t necessarily agree with Kurzweil’s concept of singularity, but that doesn't really matter. There is no slowing down the development of technology. It’s just not possible. What we need to do is be aware that technology is dramatically changing the way markets operate and be aware that some people are using it to rip off those who aren't as sophisticated. We can't let them win.

Josh Levine is an extremely unique, rare specimen in financial markets. He wasn't out to make himself rich, he was truly driven by an idealistic vision. What happened, sadly, was that his acolytes used the brilliant tools and machines he created to enrich themselves and they threw away the vision of open and free markets. That’s Wall Street for you.

I don’t agree that it’s becoming more immoral. Finance has always been full of charlatans and thieves — that’s where the money is! It also has its fair share of good, decent people (don’t laugh please—it’s true). I think the recent financial and economic collapse has simply exposed a lot of illegal activity that had been going on for decades. Bernard Madoff started his scam in the 1980s, or even earlier. It wasn't new.

I interviewed dozens of people, some of whom work on Wall Street today and some who have left. I asked them myriad questions about how the markets work and how they could be better. I sat behind traders and watched them operate. I also was lucky and met the right people. Persistence is very important. If someone tells you they don’t want to talk, don’t take no for an answer. Keep asking. Go to their office and knock on the door. Chase them down the street! Eventually they will give in. You have to be a pest, that’s in the job description.

I asked Josh Levine to meet me over and over again, but he always refused. It’s crucial to meet people face to face if at all possible. You get to look them in the eye, watch their body language. You also can develop a closer connection to them that can help in the future. There’s always the temptation to get information by email or over the phone—I do it myself. But if at all possible, get out the door and have a cup of coffee with your sources. Or better yet, a cold bottle of Singha!