Wednesday, 8 August 2012

Gamblers with systems

The massive failure and subsequent rescue of a Wall Street trader last week underlines the extent to which the trading floors of stock exchanges have been transformed from places which allocate capital to companies to casinos. 
The company itself blamed an ‘IT glitch’ for automatically placing  huge volumes of trades which sent the Wall Street share prices of 148 companies into a state of wild fluctuation.  Details of the ‘glitch’ have yet to be revealed, but as an ex computer programmer, ‘IT Glitch’ is not a term I can relate to. 
On this occasion, the computers may have done some silly things, but they were only acting on the instructions of their programmers – the glitch is ultimately a human one.  The human telling the computer what to do got it wrong – and the result of what was probably a very small error was the collapse of a company which lost £283 million in 45 minutes.
The response of the company’s CEO was remarkably sanguine – “Technology breaks”, he said.  It’s the reaction of a gambler, and like most gamblers, he and his company are unlikely to change their ways.
The fact that so much money can be won or lost in such a short period should worry us more than it appears to do in practice.  Much of the ‘trading’ on world stock exchanges is now automated.  Computers running sophisticated algorithms decide when to buy and when to sell; trading the same stocks over and over, thousands of times a minute, trying to leverage tiny differences in price by sheer volume and frequency of trading.  
Different computers using different algorithms compete with each other in tiny fractions of a second.  It’s even got to the point where the computer centres are being moved to be nearer to the exchanges – the time lost by a message travelling at the speed of light over a distance of just a few miles can put them at a disadvantage in this particular casino.
Whether the stocks and shares being bought and sold between the varying computer programs actually exist or not is an interesting but largely irrelevant question from the perspective of those involved.  All of this has nothing to do with the business of ensuring that companies employing real people to produce real goods in the real world have access to the capital they need, nor with investing in pension and insurance funds. 
It’s a casino, pure and simple.  And if there’s one thing worse than a compulsive gambler, it’s a gambler who has a ‘system’ with which he thinks he can break the casino.
With the exception of the shareholders in one particular company, who have seen the value of their shareholding plummet, we’ve got away with it this time.  There’s no guarantee that the next ‘glitch’ won’t have much more impact on us.  The best way of doing that is to put these people in real casinos, and leave them only their own money to play with.


farmland investments said...

Great post mate. The whole thing really is a casino! One point to note is that the huge rise in this high frequency trading is utterly and totally distorting the markets on both Wall Street and in the City. Stocks rise and fall with no rhyme or reason. or at least none that have anything to do with the companies' underlying results and performance. I wonder why this whole high frequency trading thing does not get more play in the press.

Unknown said...

A tiny transaction tax (robin hood tax) of one or two basis points (0.01% of value) would bring the markets back to sensible trading. Most European leaders are for it, but Cameron is set against it as it 'Will harm the City' - Well - GOOD!

And I talk as a programmer and banker.

Spirit of BME said...

Mr Dixon,
I agree with the principle you are putting forward, but this is not exactly a casino scenario – it’s worse.
Trades are posted on the market by companies without having the financial backing to follow through, try doing that in a casino!!!
There are laws in the US dating back to post 1929 crash that forbids this, but they have not been tested against the new computer technology as some of these trades only have a life of two seconds.

Unknown said...

i believe the life of these trades is measured in milliseconds.