> comments (laypeople in general) tend to make very confident and very wrong comments on market structure
Former equity derivatives trader here. The Levine article linked to is one of the denser accessible discussions on the topic I’ve seen. Also, as a current English speaker, the “truth searching” the comment you’re responding to cites refers to the general process of learning, and nothing specific to market structure.
The original poster was using "truth searching" euphemistically. In other words, it was a more polite way of saying that many, or even nearly all, comments on such matters on HN are misguided.
> HN comments (laypeople in general) tend to make very confident and very wrong comments on {X}
Yes, it's annoying. From conspiracy theorists to supposedly smart people with PhD's, I'll catch them in a fiction. "You just made all of that up," I'll say, to which they reply with handwaving and equivocation. Why are we so reticent to be comfortable with our own ignorance and hold our tongue?
I think it’s perfectly reasonable to offer an opinion borne out of reasonable ignorance, but the critical part missing most of the time is that you have to be open to actually being corrected without becoming combative.
Too many people have their ego and sense of self worth wrapped up in being correct on the internet, regardless of the topic.
This is a property of human beings in general. We're all wrong about almost everything, and "wrong and confident" probably just means the same thing as "wrong".
Which is fine! But as community we do have a somewhat annoying tic of fixating on a small set of axioms and trying to extrapolate everything else from them, when a lot of things you can just look up the answers. Even competing authorities, if our cites conflict, is usually a more interesting (and curious!) conversation than a bunch of nerds making it up as they go along.
When nobody has a cite, we're just going to noodle and be wrong about stuff and that's fine, even salutary. But sometimes the truth-seeking we do is kind of superfluous.
(I'm just writing this so it doesn't sound like I was just snarking about HN.)
As someone who used to work in execution brokerage, this rule change seems on net to be good news for retail investors and bad only for folks like citadel and robinhood.[1] In the wake of flash crash there was a fair amount of research suggesting that rolling auctions (rather than continuous order matching) are net positive for almost everyone except HFTs who exploit market microstructure.
In my view they should also get rid of reg NMS, which entrenches HfT arbs and gives a permanent advantage to people who pay to colocate at the exchanges. Europe has shown that reg NMS is not needed and doesn’t benefit investors.
[1] noone should be crying for robinhood. Their entire business model is about disadvantaging small investors to benefit themselves and Ken Griffin.
IMO the whole system needs to be overhauled. With today's tech there is no reason that trades can't be immediate, the fact that it takes 3 days to "settle" a trade is absolutely beyond ridiculous. That and let's also get rid of any special treatment for the investment industry that retail traders don't have (for example as a retail trader, I can trade in the pre or post market but if I do my trades aren't guaranteed to happen in any timely manner like they are during normal trading hours. This lets big investment firms, who can trade in real-time in pre and post market, do things like respond real-time during earnings calls that retail investors are unable to do).
> With today's tech there is no reason that trades can't be immediate,
Liquidity is a good, non-technological reason that we may not want trades to be immediate.
Consider how the price is found at market-open: buy and sell orders are batched into the opening auction, then the exchange finds the single price that results in the most matching orders. All execute at that price.
Contrast that with the binary, point-in-time matching that happens during the day. Here, the order book sits there waiting for someone to match an offer. It leads to perversities like "iceberg" orders (that disguise the true size of the order by posting only a small amount) and market-making firms that will really buy a little bit above the bid and sell a little bit below the ask but hide that for strategic reasons.
Trade settlement times might be silly, but that's a back-end implementation detail relevant mostly to day traders; it has little to do with the price discovery part of the market.
I think the frustration that people feel is that they decide to sell at X price, but it doesn't actually sell at X price even though X price was, in fact, a listed price on point of time that the sell order was executed.
For instance, lets say I bought a bunch of stock in ACME for 10 dollars a share on say, Wednesday. Lets then, take for example, I notice there was a huge spike on Monday at 12 PM and suddenly, its 15 dollars a share for say, a few minutes, before going back down to 10, so I execute (or, perhaps smartly, have some automation on the account that auto-executes the sale if its at or above N price). Reasonably, I'd expect to get my 15 dollars a share because I sold within the correct window (you can see the timestamp!).
And yet, this isn't what happens. I remember, quite distinctly, being bitten due to the delay in settlements, where in fact, you end up right back in the 10 dollar a share sale because of the delay. This is why real time access for everyone matters, IMO, because in any other market, you get to buy or sell at the time of point agreed price, right?
Why should stocks be different? Why should only huge institutions be able to execute on point in time pricing?
Disclaimer: Its entirely possible that I'm missing something, but when I raised an issue with the broker (This was in the early 2010s, but I can't remember whom, exactly, I worked with) they pretty much made it clear it was because retail trades were cleared "in bulk" at the "agreed price" not the point in time price the sale was executed, if I recall correctly.
Delay in settlements shouldn't matter in the case you described, and the specific problem you're describing is solved by using limit orders rather than market orders (of course, the order might not fill in that case but that's the risk you take with using limit orders).
The problem with real time for everyone is that the tech required to do that is complicated and it's not necessary for most people.
its odd to me that the market can arbitrarily decide not to fill a sale at a listed price. I'm still not grasping why that is possible. You'd need to mathematically prove there was no buyer for the stock at X price not to fulfill the sale yes? Thats the only way it makes sense to me, yet I know thats not the case by just looking at the sell volume (there was, in fact, to the best of my knowledge, trades executing buy orders - though in my personal example, it was a few hours where the price was higher then went lower)
> its odd to me that the market can arbitrarily decide not to fill a sale at a listed price.
You might be misinterpreting what the "listed price" actually is on a stock market. Prices that you see quoted are generally not prices that somebody is offering to sell at; they are the price that the last sale was made at. But that sale has already executed, so you cannot infer that there is someone else still willing to sell at that price. The only way to find out for sure what is available at what price is to place a buy order, and your buy order is not guaranteed to execute immediately because there might not be a matching sell order in the order book; it is not even guaranteed to execute as soon as there is a single matching sell order in the order book. It depends on the type of order and the exchange it is placed on and how orders and trades are reconciled. It's not like going into a store and taking an item to the cashier and buying it at the advertised price.
You have your thinking backwards because you're ignoring the need for a counterparty. In order for your sale to happen the market must first find a buyer to match it with (otherwise how could you trade?). There's no need to mathematically prove there isn't some other buyer as the whole point is to match the two.
Limit orders at the same price are filled in FIFO order, and it can be the case that that some limit orders fill while others do not simply because someone was only willing to buy 100 shares at that price and there were 200 available for sale - some sales won't happen.
Settlement in Europe is T+2, there's talk of T+1 settlement, but there are complications around some classes of securities, things like ETFs, where the underlying might be in a different country/exchange/timezone with bank holidays and stuff like that which complicate matters.
I'm also interested in this idea that large investment firms can trade out of hours - this has never been the case in any market that i've seen. There are some 24/7 markets though (CME is like this I believe?) so maybe there is a disconnect between the hours offered to customers vs the exchange hours? I suppose the other possibility is that the broker trades the opening auction and doesn't offer this to their customers, but i'd have thought they would simply bundle everything into the auction from overnight.
Back in the day, the UK settled twice per month, with the various brokers having tracked all of the trades for the fortnight then the accounts departments moving the difference once they had agreed the actual total (which of course would never match with a word of mouth + paper based system). It's amazing it worked so well for so long, all basically based on trust and hence why being an exchange member was so important for trading.
The move to a rolling settlement date part of the Taurus/Talisman project in the 1980s. This got cancelled, lots of IT companies had invested heavily to be ready for this got burnt, but what emerged was the less extensive CREST system which is still in use today.
The original move was to a T+5 rolling settlement, which moved to T+3 in the early 2000s and is now T+2.
> With today's tech there is no reason that trades can't be immediate, the fact that it takes 3 days to "settle" a trade is absolutely beyond ridiculous.
Well good news here for you, trades settle in T+2 and have for some time.
> That and let's also get rid of any special treatment for the investment industry that retail traders don't have
Well that is limited by only the deal you and your broker have. You can send all the complex order types that funds do, you are limited only by your broker.
Trading pre/post market still happens on exchanges so any delay is related to your broker. I can trade in "realtime" from my personal brokerage account with no issue or delay.
>Well good news here for you, trades settle in T+2 and have for some time.
T + 2 is WAY too long. I click a button to buy/sell, money goes to one party, the stock goes to the other party, transaction is final and complete within milliseconds. That is how it should be.
Multi-day settlement is good for market stability. If there is an error, it gets picked up in clearing. If there is a catastrophe, the regulator can cancel the day's trading. T+2 would be an improvement, but less than that would create new problems.
Something the US could do to improve its situation would be to change from end of day novation to novation within five seconds of a trade. This might reduce the amount of capital that firms had to post.
>Multi-day settlement is good for market stability. If there is an error, it gets picked up in clearing.
Why is this a good thing? There are consequences to actions, lets just live with that. If you mistakenly order something you didn't mean to the solution isn't to "catch the error" and prevent a transaction from happening, the solution is to make an new entry/transaction that reverses the previous one. If you end up having to eat some cost to reverse the "mistake" oh well, lesson (hopefully) learned you will be more careful next time.
There should be no settling, no clearing, every transaction should be immediate and final.
This would open up the possibility to not have any arbitrary market "open" and "close" times. There should be no need to settle up, clear, reconcile for the day/week etc. All transactions are immediate and final and the market can run 24/7 365.
The reason blockchain isn't doing well has absolutely nothing to do with there being "no settling, no clearing, every transaction should be immediate and final." and everything to do with the "assets" that the blockchain represents.
That is not what clearing and settlement are about. They are about liquidity and stability. In countries with well designed systems, equities settlement is an atomic action.
So, for a transaction involving a UK stock, the Bank of England moves money from one party to the other, and stock from the second party to the first as an atomic transaction.
Trading flows get complex. Some illustrations,
1. If your balance sheet is smaller than a global investment bank, you are regarded as higher risk to deal with. A clearing house won't onboard you on your own account. Instead, you have to get a kind of coverage from a major player who the clearing house does respect, at a cost to you, to clear against their balance sheet. The exchange membership might be yours, and the trades are yours, but for clearing and settlement you are represented by an IB who has a desk that specialises in covering trading risk for scrappy trading firms for a tidy profit.
2. Most participants in markets are not direct members - e.g. hedge funds and mutual funds tend not to be. Non-member access the market via a broker who is a market. Often a broker will outsource activity for some markets to another participant who is more effective at accessing a particular market.
You will have noticed that these arrangements create long chains of inter-dependencies. If there was only trading and settlement, a small error at one bank would cause a cascade effect that would affect hundreds of other participants and disrupt atomic settlement. The system would quickly and regularly stall. So between trading and settlement there is a round of "clearing". Here, everyone confirms that the details are right ahead of settlement. If a participant failed to send a transaction from their trading engine to their clearing system, that would be revealed. If a market maker closed the previous day with a short position they weren't supposed to have, they would get assistance to patch that up. There is lots of forgiveness and room for correction within the clearing round, but big-stick consequences if you don’t come to the right conclusions before it has closed. In this way, when the Bank of England goes to move positions, everyone ends up with what should have.
This three-tier trading/clearing/settlement model allows entities to focus on types of risk that they are good at managing. Without them, the exchange would have to do it all (this is not realistic), there could be no activity between jurisdictions (e.g. french bank trading on swiss market) and it would be far harder to bring liquidity to market.
A system with fewer layers would be far riskier. The clearing houses act as a buffer if there is an insolvent participant. According to legend, when Lehmans was in collapse, the risk process at London Clearing House kicked in to unwind their positions and made a profit on that unwind. This mechanism reduces the possibility for contagion.
If a country tried to build a system that had less liquidity or worse stability, companies would move from that jurisdiction to another that suited them better. I am not sure of the details but understand Sweden blew up its finance sector through vindictive/populist legislation in the late nineties. Activity moved to London and the world moved on.
Clearing needs to be a day because if there are misalignments, you will need analysis and developers to have time to review what happened on the trading day, and have phone calls to discuss with teams at their other partners until a problem is uncovered. If this failed, the senior management would get involved on the T+1 evening. Hence, T+2 settlement is the optimal.
24/7 markets. Someone who wanted to build a trading desk would need to ensure coverage from risk and compliance officers, and to be on top of market events. With a traditional open/close market, it is feasible to do this with a single team. With a 24/7 market, you can't so you either miss liquidity, or are forced to put together an expensive, complicated global team for no increase in total trading opportunity. And on the exchange side, 24/7 makes the software far more complicated for no benefit beyond the bragging rights.
It's my understanding that the reason for the delay in settlement is to allow for mistakes to be resolved.
Not retail mistakes of course, but mistakes that might impact the people who count (unless your retail mistake impacts someone who counts, i.e. your broker who misfilled your order).
1) AFAIK, big firms also aren't guaranteed to have their trades resolved in any timely manner after hours.
2) What difference does it make how long it takes trades to settle? I tell my broker what I want. They have it show up in my account. Any 3 days for settlement is handled at no cost to me.
You're indirectly paying the float during that settlement period.
There's also a whole clearing industry that you're funding with your fees even though more efficient technologies could mostly eliminate it.
Like yeah, it's fun going to fancy restaurants with your salesperson from the clearing firm, but the only reason they can do that is due to massive amounts of rent-seeking. The more I work in finance, the more I think any high touch sales activity is an indication of a broken/corrupt market.
I mean, I have no faith that I will somehow make more money if my broker no longer is paying the float. In my estimation, it's likely to result in employees of my brokerage getting a slightly bigger boat and fewer comped meals from salespeople, while leaving my bottom line the same.
Most nice brokerages will cover the float for the settlement as long as you don't try to withdraw the money outside of the brokerage. Also it's T+2 days now in the USA at least. So this is mostly a non-issue in practice and has nothing to do with your actual complaint. ACH is T+2, Checks and everything else is T+2 to T+5(some paper checks can take 5 days to fully settle). This settlement, like the other commenters have mentioned is to fix any problems. I've seen giant companies screw up ACH payrolls, that they have to recall every ACH and re-submit. This T+2 is to fix those mistakes. Brokerages screw up sometimes too. T+2 let's them fix those mistakes. Yes automation and technology could make it all instant, but human error still happens, so T+2 is there to fix the human error, without having to reach out and undo transactions that have landed.
No trades are guaranteed because you have to find someone willing to take the other side of the trade. This applies pre or post market. Some brokerages are happy to let you try and trade pre and post market, but that still doesn't mean you can find a buyer or seller to complete your trade, much less trades happen, so it's much harder to fill them. Large investment firms don't really get special treatment here, like you seem to think.
I agree, there is so much more activity and things to keep track of in the options market - data wise - and that still settles in 1 day.
Over the past decade, many of the settlement times have been related to the feasibility of data retention capabilities, as opposed to the reality of it being all on top of a slower analog system for re-assigning shares and assets to different owners.
So in this decade I would say its over. 0 to 1 day settlement time.
I worry though we are trying to fix something that isn't really broke.
My first Scott Trade brokerage account years back cost $7 a trade per side
Now I pay absolutely nothing. Every trade I make I think about how this probably won't last.
An individual has no problem getting near infinite liquidity on their limit orders with no transaction cost. If someone is getting clipped a tick on a market order, oh well. Don't use a market order.
The evidence I read (it was 10+ years ago) suggests that rolling auctions reduces intraday price volatility and and reduces standard dev of many measures of transaction cost (eg implementation shortfall).
If you think about this variance since there is a party on either side of the trade, and one will benefit and one will lose out. The downside of reduced variance is you will never gain a “lucky fill” that is much better than you expect. But you will also never get a really bad fill either.
Since the whole purpose of hfts In market making is essentially to try to always be the ones yo get the lucky fills, they will on average do this and everyone else will on average lose out (from high execution cost variance). That’s why I said on net retail investors should benefit from this (I think).
You first have to define what playing field are we talking about?
The playing field in this context is basically latency arbitrage. Who cares what hedge fund is collecting what alpha?
We live in the most golden age for retail trading. Retail electronic trading inside a Roth is basically perfection for the individual right now. I think people are confusing the market micro structure for the account returns in a bear market.
> Europe has shown that reg NMS is not needed and doesn’t benefit investors.
I don't think Europe has shown this, or should be seen as an role-model for execution quality. The European model benefits national champion exchanges and lazy brokers.
In Europe, all retail flow is forced to Regulated Markets where it directly faces more sophisticated players. There is nothing equivalent to the execution-quality guarantees that RegNMS delivers in the US.
RegNMS ensures a high quality of protection for the interests of retail investors, and is even-handed towards exchanges.
The auctions we can observe (open/close) do not disadvantage micro structure traders. Quite the opposite they are where the most games are played. I don’t know if that’s because it’s open/close, because it’s different to regular matching or if it’s intrinsic to auctions.
My personal opinion is that this change will have lots of unintended consequences and it may even cause a shuffling of who are the big players. But it likely won’t mean the end of HFT microstructure trades. At least I hope not because I believe that would lead to higher spreads and less liquidity.
Any idea how much it could benefit retail investors?
I gather that this arbitrage made large amounts of money a penny or so at a time. Which is to say, your own trades might net small numbers of dollars more -- money you're entitled to, to be sure, but not exactly changing the world.
I could be wrong about that, and either way I've got no love for middlemen providing nothing, not even liquidity. So I'm trying to get a handle on how big a change this actually is for everybody except the high-frequency traders.
The first thing I did was open the article and search for PFOF (Payment for Order Flow).
> This proposal would address a controversial practice called payment for order flow, in which some brokers collect rebates for sending customers’ orders to wholesalers. Mr. Gensler has called the practice a conflict of interest and, in past statements, left open the possibility of banning it. The SEC’s best-execution proposal doesn’t go that far. But it imposes additional obligations on brokers that engage in payment for order flow to help ensure that customers are getting a good deal.
Shame. They’re skimming money straight off the top. Perhaps I should withhold judgment but I suspect they’re banking on the idea that Joe Schmoe, who downloaded an app to gamble with his future, isn’t going to seek out this financial disclosure data. I have a friend who can rattle off everything there is to know about option spreads and general technical analysis drivel. He initially didn’t believe me when I told him about PFOF.
PFOF is not a problem, except that it hurts your pension funds.
PFOF needs to be price improvement. Research has been done and it _does_ give price improvement.
The main point of PFOF is that high frequency traders have much less risk when trading with single persons than they do trading with big players. They are willing to offer them much better prices than they will offer big players. Suppose there is 10cents difference. PFOF means they pay your broker, say 5c to give you a 5c better price. You are better off, your broker is better off, the high frequency traders are better off. The only people worse off are the big players. Because when HFTs can filter out the low risk trades, the high risk trades get more expensive for them.
Research has been done showing that different brokers split the price advantage differently. Robin hood, IIRC was one the worse side, allocating 80% of price advantage to PFOF, leaving only 20% to the customer. But the customer is still better off than paying the public exchange rate.
I found it trying to find the source for the research I quote. That stat came from Matt Levine's newsletter. This report contradicts what I wrote above. It does seem that the report is about european brokers, whilst Matt Levine was talking about US brokers.
>Research has been done showing that different brokers split the price advantage differently. Robin hood, IIRC was one the worse side, allocating 80% of price advantage to PFOF, leaving only 20% to the customer. But the customer is still better off than paying the public exchange rate.
But why should Robinhood or whoever else get part of the 10 cents that the algo is offering me, the little ol' retail investor? Just because they're in position to gobble some of it up without me knowing?
I mean because you’re using their platform and these are the terms - people have always been free to use other brokers, like the ones that charged commission.
Regulations also mean that you have to get NBBO or better so your fill price is never worse than the market
Because they’re offering you “free” trades and making their money from their cut of that price advantage rather than charging you $5?
I don’t use Robinhood, but I don’t see anything wrong with that pricing model. Prohibiting it would be equivalent to banning no-fee trades for small time retail investors. It would be like banning ad-supported business models. Well, on second thought…
When its used in dark pools and used the internalize orders.
I mean, how can a stock have repeat 90% buy to sell ratio for over 2 years and still go down? Makes no sense.
There is no such thing as a "90% buy to sell ratio", because every transaction consists of a buy and an equal-sized sell. You can try to classify each marketable transaction in terms of whether buyers or sellers were more aggressive, but that doesn't tell you anything about the state of the order book and the amount of resting orders that are present. Large portfolio do not unwind their positions by just throwing everything into the market as marketable orders, they put chunk after chunk of it into the order book as resting orders. That can easily drive down the price even if it looks like buyers are more aggressive in terms of marketable orders.
Institutional investors. I can’t explain it better than Matt Levine’s article. It’s well worth the read, and it links directly to the SEC proposal if you’d like to read deeper from there.
After reading the article, my take is less harsh. It is really bizarre to me why instead of outright banning it, they just want to make it a really bad deal to do so. But if it works, great! We’ll see.
Levine doesn't believe PFOF involves people skimming money from retail investors, if that's what you're implying. Levine's story boils down to: retail order flow is cheaper to make markets for, wholesalers and brokers can split the savings three ways (between retail investors, the broker [via PFOF], and the wholesaler). That's not skimming; that's, like, the operating principle of Walmart.
There's an argument that it artificially increases spreads in lit markets, since you have segregated the least toxic flow to only go to a few select players (largely Citadel and Virtu). Further, these increased spreads mean that the 'price improvement' is only price-improved against a spread that's being quoted against only the most toxic flow. However, many spreads are still close to a single tick, although this is less true as individual ticker prices have generally gotten higher.
The tick size changes are interesting as well in the context of auctions. If a claim is "you can't have an auction with sub-penny pricing so there's no improvement", well then make the tick size smaller.
Another argument against PFOF is that brokers could (and Robinhood has been caught doing it) be incentivized to route orders to the highest PFOF rather than executing at the best real price.
As a retail investor, I’d rather have PFOF and free trading instead of paying $5 to $10 a trade which is more expensive than spread improvements.
That’s what PFOF has brought to retail investors. It’s not like retail investors was ever put onto the public exchanges prior to robinhood and PFOF, they were sent to dark pools for institutional investors to trade against but retail investor never got the benefit.
PFOF isn't gigantic revenue driver for many retail brokerages, including some that offer zero commission trading (like Schwab). Robinhood may have started the price war while making most of its money from PFOF, but you can have low to zero commission trading without PFOF.
The payments per share tend to be extremely small - on most symbols the broker isn't making $5-10 per trade from the MM, for reasonably sized trades.
Even if payment for flow was costing you that much, paying for an order vs giving more price improvement are indistinguishable. Payment for order flow just means that price improvement definitely goes to the broker instead of back to you.
Robinhood forced the discount brokers to adopt zero commissions. Robinhood only exists because of PFOF. Being on Schwab you indirectly benefited from PFOF and Robinhood because you don’t pay commissions. I personally don’t use Robinhood but I recognize that they have been beneficial to me.
Levine is entitled to his opinion, but I don't think he has argued that retail investors receive better prices compared to a condition where all of their orders are sent to lit venues and makers who want retail flow have to get it by having top-of-book (or midpoint peg or whatever) orders at lit venues.
It's not so much his opinion as the law. Wholesalers have to improve the lit market price, or else route the order to the lit market. And it's clear how they're able to improve that price! The lit market has to serve institutional traders, who are much more expensive to trade against.
> The customers think they have no cause for complaint, because they did better than the NBBO. The whole thing is an institutional equivalent of retail payment for order flow: The partner firms fill the customers at a better price than the NBBO, make some profit for themselves, and kick back some of it to the broker (Coda).
"Payment for order flow sort of created the zero-commission retail-brokerage model, but it’s not really necessary anymore. You can run a profitable retail brokerage on net interest margin, without charging for trades at all."
So what everyone should be complaining about is not PFOF, but "net interest margin". In other words everyone should be complaining about the brokers not paying enough interest on the cash balances in the brokerage accounts.
This confused me at least: do people keep cash in their brokerage accounts? Is this an American thing (limey Brit here).
I transfer cash in once I've decided to trade and the brokerage usually holds it for a max of a day or two until the trade actually executes (say I am buying an index fund where orders today are executed tomorrow). The only time there has been cash for longer than that was when I know I needed it (a week or two before buying my first place) so I didn't want to risk a stock market crash etc.
In the US, settlement is T+2, so if you are buying, the broker doesn't pay the cash/receive the shares until two days later, but they won't let you buy without cash in your account first, so cash for unsettled trades is a bunch of float.
Sounds like you should use a better brokerage. Vanguard defaults to putting all my money in Vanguard Federal Money Market Fund (Settlement fund) with a current 7-day SEC yield of 3.8%. They do charge me a 0.11% fee though.
We already see a LOT of auctions running in the options markets, and trading these auctions it is one of the profit centers of market makers. It turns out that speed is still a factor in a stock market auction, and you can still have designated market makers that are guaranteed to get a cut of each auction.
I'm not sold that this move will actually result in much better prices for customers on average, but it will certainly "spread the wealth around" by allowing all brokerages to take advantage of a uniform price-improvement structure rather than negotiating individually with Citadel/Virtu. I have been an IBKR customer for a while, and I'll be happy because I don't get a lot of price improvement under the current system. Schwab customers, who get a lot of price improvement, may be less happy.
In options, there is the suspicion that the presence of a lot of auctions probably results in wider spreads, which we could see as auctions make it to the stock market, too. If all retail order flow goes into the market through special channels, the only trading remaining in the "normal" system will be from sophisticated traders, who you don't really want to trade against.
Of course, the SEC may then say "the experiment was a great success, retail traders are getting HUGE price improvement," ignoring that retail traders may be getting worse prices than the old NBBO from the widening of the spread.
> We already see a LOT of auctions running in the options markets, and trading these auctions it is one of the profit centers of market makers. It turns out that speed is still a factor in a stock market auction, and you can still have designated market makers that are guaranteed to get a cut of each auction.
The complexity and fragmentation as well - you can preferentially do auctions at venues you have an advantage on, and bully the venues away from fixing whatever you exploit by threatening to take away flow.
> In options, there is the suspicion that the presence of a lot of auctions probably results in wider spreads, which we could see as auctions make it to the stock market, too. If all retail order flow goes into the market through special channels, the only trading remaining in the "normal" system will be from sophisticated traders, who you don't really want to trade against.
Effectively all retail flow already goes through even more cutoff special channels? But I agree with the point, this seems like adding a tremendously complex game instead of just shrinking tick sizes. At least in options, you tend to have much wider spreads. But the fact that plenty of stocks trade at min tick is a sign the spreads could naturally be tighter.
> Effectively all retail flow already goes through even more cutoff special channels? But I agree with the point, this seems like adding a tremendously complex game instead of just shrinking tick sizes. At least in options, you tend to have much wider spreads. But the fact that plenty of stocks trade at min tick is a sign the spreads could naturally be tighter.
This is true, except the key factor is that the price signal eventually reaches the "normal" market when you look at the trading patterns of the wholesalers, mixing it in with the price signals coming from the trades that the wholesaler does for other clients (including their own strategies).
Moving to an entirely separate public information channel means that 100% of the trading activity on the markets (aside from the separate channel) is driven by sophisticated parties. That makes a big difference - for example, during the GME fiasco, there was uncertainty about how much of the activity was retail vs institutional traffic. After the proposed rule, we will know exactly how much of that flow is retail.
Don't forget that companies easily get around this by having higher brokerage fees when the brokerage arm and market making arm have the same beneficial owners. Just do what Susquehanna does: instead of filling an order 0.05 too high, fill it at a fair value, and charge a 0.05 fee. Then no other auction participants can better the fill, since all of the money got shifted from a bad fill to a high fee.
> Requiring such auctions would be a big change. The SEC says brokers send more than 90% of marketable orders to wholesalers. Unlike exchanges, which display price quotes publicly and allow a variety of market players to attempt to fill orders, wholesalers trade directly against the incoming retail flow, an arrangement that effectively prevents other market players such as institutional investors from interacting with individual investors’ orders.
Levine points out that it's not clear that the change --- brief order-by-order auctions to beat the wholesaler price (which is in turn at least as good as the public market) --- will actually improve outcomes for retail investors; there's a paper:
If we look at the actual price improvement that retail order flow gets, I think we can be pretty confident that Robinhood and IBKR Pro users, who have the least price improvement today (one group because of greedy brokers and the other because they are usually professionals doing their personal trading), will do better. Users of Schwab and TD Ameritrade, who get the best price improvement, will probably do worse.
Whether the total amount of price improvement in the market increases still does seem to be up for debate - I personally doubt that it will be much better for average retail investors than the old system.
It really depends on whether non wholesale players step up and participate in these auctions.
While Citadel and Virtu are very large market makers, there are other equally large firms that don't jump through all the hoops to participate in wholesale, but would probably do on-exchange auctions.
The SEC also talks about non market makers using this for execution, but I don't think that's going to happen immediately...
This does not address the inherent conflict/manipulation possible with the HFT relationship:
1.Imagine a Robinhood user places an order to sell 100 $GME
2.Robinhood doesn't send it to an exchange first, it holds onto it for a few milliseconds.
3.Meanwhile, Citadel/Virtu or others execute orders below what the bid would have fetched a few milliseconds ago.
4.Now, the order is routed to the exchange above what the market was trading at and thus certainly goes unfilled.
5.300 milliseconds per the regulation elapses and the order comes back to the HFT firm to fill.
The bigger issue here is the nepotism in providing wholesale prices to HFT firms. The stock exchanges do this and so does Robinhood. In an open and competitive market, the playing ground should be regulated to be equal for all.
Or infact, as motorsports participants know very well, the cost of access to markets should INCREASE with size, not decrease. . . If you're the present Formula1 team winner, you pay SIGNIFICANTLY more to enter next years championship than the last place team.
> ...the company has quietly been laying the groundwork to become a standalone market maker,
> One way to reduce its reliance on PFOF is for Robinhood to actually match its own order flow instead of selling it to other brokers, company executives said. They even hinted during the roadshow meetings with investors that they too will be looking at getting into the business…
I had no idea that, until the recent round of “innovation”, the retail investor traded only with other investors in the brokerage consumer list. I always thought the brokerage is just facilitating access to the actual trading desk where the trade is put up for anyone to pick up.
Am I right in understanding that Robinhood took this and abused it by turning itself and its customers as the source for high frequency traders?
"Robinhood makes money in a number of ways, notably through a system known as payment for order flow. That is, Robinhood routes its users' orders through a market maker who actually makes the trades and compensates Robinhood for the business at a rate of a fraction of a cent per share." [0]
The market maker is usually a big player like Citadel. And with this information, they can front-run the market.
They have to execute at or better than the national best bid and offer so you are getting at or better than the price you'd get if you posted a marketable order to an exchange. I don't see how they are front-running.
FINRA requires retail brokers to make a report on price improvements based on a retroactive analysis vs NBBO. So, yes, they do know what NBBO was, and whether they were truly price improvements or not, and that's being monitored and tracked, and the brokers get yelled at if they violate that.
Pretty much all conspiratorial, "motivational" analysis of PFOF critics on HN are simply wrong. As Matt Levine explains it clearly, from the utilitarian perspective, PFOF is not a bad thing at all for retail investors. Whether it can be even better is a different question and clearly SEC is trying to find that with the new proposal, but as is always the case with a complex system with differently motivated actors, what exactly the new balance point for the new system will be is uncertain.
How do you enforce that? The retail investors are not aware of that and they have no way to compare at the point of trade. If they grease enough palms in the government they are free to do what ever they want
The proposal needs to go further and expand the scope of the rules to stock options as well, which is where most of citadels revenue comes from, being the contraparty to options trades of robinhood yolos.
If someone can add that as a comment to the rules to the SEC that would be fantastic.
Don't want to hijack topic but my post on FINRA got flagged. I am interested in your read of the trading halt of MMTLP two days before the ticker was supposed to be deleted. Previously trading was supposed to go on until the 12th, investors could sell. But after FINRA halted the trading, investors were left with the shares to be converted to a new company shares at some future date. https://investorplace.com/2022/12/investors-petition-for-fin...
> Robinhood to pay $65 mln fine to settle SEC charges of misleading customers
> The SEC charged the company with failing to inform customers about payments it received from trading firms to route customer orders through them, a move that resulted in customers paying higher prices to execute trades.
> Robinhood customers' orders were executed at prices that were inferior to other brokers' prices," the SEC found.
Having only whatever partial understanding Levine (I do love how many people here mention him, he makes us all feel smarter for sure) has imparted on me, I really don't get the obsession with these brokers. OF all the seemingly shady things going on with finance, this doesn't really seem that bad...
If it were up to me, I'd make the market a series of batch executions, every 30 seconds... 20 seconds of open for orders, 5 seconds to actually compute the transactions, and 5 seconds to send out the results, and then repeat.
Completely eliminate the idea of high frequency frontrunning.
What’s wrong with dark pools? The name is meant to conjure up some evil mental image, but it’s just two or more parties that want to offload / onload some stock without impacting the market.
It’s no different than telling your neighbor you’re willing to sell your house for $X without publicly listing it.
Dark pools mean that public market prices aren't as accurate. The story of financial markets being valuable to wider society is, among other things, price discovery. Dark pools don't serve that purpose.
Moreover, the PFOF story depends on 'price improvement'. If public stock markets aren't accurate, then 'price improvement' is a meaningless concept, because it compares the price to the public stock market price.
> It’s no different than telling your neighbor you’re willing to sell your house for $X without publicly listing it.
The difference is that the most accurate price for 'my house' is not of significant public value. Whilst the most accurate price for stocks is quite valuable to the wider world.
All details and Fin. Engineering are just a more sophisticated scam to dump on public investors. There I said it. Sure someone can explain why not that in a long text but IMO that is not the truth.
It’s worth pointing out that, in most U.S. localities at least, real estate transactions become public knowledge once they close. You can go look up, on a government website, how much a property sold for even if the transaction was conducted privately. So price discovery is still possible.
I don’t think there is an equivalent public reporting mechanism for private “dark pool” transactions of financial instruments.
Another way to say “without impacting the market” is “denying the market information it needs to set prices accurately.”
Seems pretty clear from context they meant "financial" or perhaps "related to money", I don't think we have to put them on the spot for it.
I imagine this is part of the meta-point you're making across the thread that people on HN talk out of their hat about finance (I plead guilty) but I feel like your comment about Money Stuff/"truth searching" was enough, and that asking people to defend their misuse of terminology is punching down.
I agree, but also, maybe some amount of punching down is deserved - there really does tend to be a lot of people speaking in an authoritative tone while being completely wrong in the finance-related hn threads
EDIT: I suppose we can scratch the "finance-related" bit
Assuming you mean OTC desks, because there isn't much proper dark pool presence in crypto.
OTC desks aren’t where majority of spot and delta one products trade although some of their advertising might have you think otherwise.
Even if PFOF (pay for order flow) were provably optimal, I don't like from an investor perspective because the fees are hidden. Gensler makes a similar argument.
People care way too much. Brokers used to take huge commissions, now the HFT market makers really aren't as exploitative as people's imaginations believe. Virtu is a good example, its a $3B market cap, less than half the size of Twilio.
I agree with this, as an individual investor, from my perspective the most likely thing that happens is that the SEC screws things up.
I started out paying what in today's money would be $50 a trade to buy or sell a stock. So for a $2000 trade, that's going to mean starting out down 5% on trading costs ($50 buy + $50 sell). Now I pay nothing.
Does it matter if I pay $50.01 or $50.005 per share on a trade? No, it does not. Leave it alone and let the brokerages compete, they're not monopolies. I much prefer the current system to even a small risk of having to go back to commissions.
Kind of an interesting comparison. According to Wikipedia, virtu is about 1/8 the size. But other than headcount and apparently market cap they seem fairly close by the numbers.
