Steve Ehrlich's Blog | CEO Lightspeed Financial, LLC

Is Congress serious?

A tax on stock transactions is nothing more than a death knell for the US markets.

Here are just a few of the false assumptions baked into the proposed securities transaction tax:

1. Congress actually cares about the deficit. Since when does Congress care about the ever growing deficit? If it really did, perhaps reining in spending is a better approach than continually raising taxes.

2. The only people making money in this economy are Wall Street bankers. Last time I checked professional athletes weren’t making a bad living with their multi-million dollar contracts. Perhaps they should shoulder some of the burden?

Just today in a speech that President Obama delivered in Allentown, PA, he stated that the money distributed to the Wall Street firms IS being paid back AND being paid back with interest AND the money paid back and the interest is reducing the nation’s deficit. So why do we need to increase taxes further ONLY on stock transactions? Aren’t there better ways to handle the national deficit?

This proposed securities transaction tax is extremely ill-placed and ill-timed. Some of the likely unintended consequences:

1. The tax will not only hit Wall Street, but it will hit its intended benefactors, Main Street. This would result in massive job losses and stifle innovation.

2. The amount of anticipated revenue generated from this tax will be reduced drastically as volume and, thus liquidity, in the market will drop off precipitously – increasing spreads on stocks traded, especially the less liquid stocks.

3. Traders will find volume overseas and thus diminish the viability of the US financial markets. Speaker Pelosi is misguided if she believes that the world markets will follow the US lead. In fact, they will likely think just the opposite and see this as an opportunity to drive volumes to their own financial markets.

Anyone want to move to Europe???

I recently attended the Rosenblatt Securities 2nd Annual Global Exchange CEO & Investor Conference in NYC. While nothing particularly new was uncovered during the event, there were a few interesting panel discussions that I believe warrant mentioning.

The “High Frequency Panel” included panelists from Allston Trading, Lime Brokerage, Quantlab Financial, RGM Advisors and SAC Capital Advisors. The key point conveyed by all panel members, and one that I strongly agree with is that there is no “clear” definition of high frequency trading, which is to say that everyone defines it differently, and that automated trading strategies provide significant liquidity in the market. Another belief shared by the panelists was that these strategies actually helped stabilize the equities markets last year during the darkest trading days, asserting that without high frequency trading the market would have dropped faster and farther. The panel also disproved the notion that automated trading strategies can only be implemented with “million dollar” computers, instead, underscoring that true high frequency trading is a function of strategies developed and run by very smart people, not supercomputers (and all within the rules as set out by the SEC). Finally, the panel discussed the fact that automated trading strategies have replaced the market makers of the past.

The earlier point about there being no clear definition for high frequency trading is really at the crux of this issue and needs to be reconciled before any regulation is implemented. The style of trading referred to as high frequency trading is simply automated trading using strategies that buy or sell stock on short term price movements. I am in complete agreement that these automated trading strategies do NOT require million dollar computers, but DO require very intelligent individuals (who can sometimes run their strategies from something as simple as a spreadsheet). I have spent a lot of time listening to and participating in discussions on this topic largely because contrary to what has been reported in the press or conveyed by politicians, individual traders have access to the same technologies as the “big” firms employing automated strategies, so they are not disadvantaged, rather they just need to know what brokerage firm to use. At Lightspeed Trading we can and do assist individual traders with running their own automated strategies and connecting them to the markets at a very manageable cost.

One last highlight from the conference was the discussion about foreign markets including Brazil, Hong Kong and London beginning to increase trading volume and, in doing so, looking for firms with automated trading strategies to build trading models in their respective markets. This trend is something that the US regulators need to understand and take notice. There is a real possibility that “over-regulation” of the US markets will drive volume to overseas markets. The overseas markets are actively pursuing volume from active traders and this trend will grow exponentially if those who earn their living trading the US markets cannot continue.
Overall, a day well spent.

It seems like every time I turn on the TV or pick up a newspaper someone is discussing, or shall we say, vilifying, high frequency trading and, now more recently, co-location – and the most frustrating part is not the debate about the issues, but that the vast majority of those opining are misinformed. So, I wanted to take a few minutes to help set the record straight about co-location and storage of servers.

First, the practice of co-locating your servers with a 3rd party provider such as Verizon (NASDAQ Data Center), AT&T, or Radianz (3 of the bigger providers to the financial service industry) started many years ago due to rising costs. Building your own technology infrastructure to support an ever growing electronic transaction business can be incredibly expensive (and that cost ends up trickling down to the end customer) so it simply made good business sense to look for ways to drive down these costs. By renting rack space, power, cooling and backup power within these facilities and utilizing the expertise and services of the providers the firms who choose to co-locate where able realize economic savings. These facilities are very large and co-location results in the benefit of economies of scale.

Some have asked, “How does co-location benefit the average retail investor?” The concept and benefit is quite straightforward and I will use our firm as the example. Being able to co-locate our servers and technology, Lightspeed is able to keep a streamlined and cost efficient infrastructure. By keeping fixed costs to a minimum, Lightspeed then delivers a state-of-the-art trading platform with low commissions to ANY and ALL customers that wish to use it. The ability to utilize a direct access platform at commission levels below web trading competitors begs the question, why would anyone trade on a web-only platform? Not sure I have a good answer for that, you’d have to ask those customers. Simply put, any firm that takes on more cost has to pass it on in some form to the end customer. If Lightspeed can lower its costs, we, in turn, can pass that savings on to our customers.

Lastly, why do so many people frown upon the concept that NASDAQ allows brokers and individuals to co-locate in their facility? This makes all the sense in the world. Through the co-location program, NASDAQ can defray the costs to run their matching engine and therefore can deliver a better product and service to its customers who can, in turn, deliver a better product to the end customer. So again, why the frown? All I can determine is that this “term du jour” was picked up, twisted, and spewed out by many in the media and even some industry “experts” without their having ever being really understood what co-location is and how it can benefit all parties.

What’s my point? I guess it is time to “turn that frown upside down” because co-location actually works and benefits customers big and small. And maybe, just maybe, what we see on TV or read in the newspapers is isn’t always completely accurate. Something to think about.

Does anybody understand why there is a brewing issue around high frequency trading?  In the past few days this “new issue” has turned into a firestorm among regulators, politicians and the news media.

Not only is this not a “new issue”, as indicated by many well known and reasonably intelligent people, but it should really be referred to as “old hat”, “yesterday’s news” or something that more accurately portrays the fact that  high frequency trading has been part of the marketplace for years. High frequency trading strategies have been utilized by electronic market makers, proprietary trading groups, or trading divisions within major broker/dealers utilizing computers (which can obviously process information more quickly than a person) for years (since the evolution of an electronic marketplace in the late 1990’s).  Additionally, co-location of servers has been around the same amount of time. Not only do the major broker/dealers have co-location agreements in the market place (most notably in Carteret, NJ at NASDAQ’s data center) so do many other firms, including Lightspeed Trading, to service in the best possible way, both retail and institutional customers.

High frequency traders utilizing automated trading and front-end technology strategies provide an important function within the marketplace. These traders have become the de-facto market-makers. They have stepped in and replaced the liquidity that was provided by traditional market-makers in the past. Without them, the markets would become less liquid and make it more difficult for retail and institutional traders to enter or exit their positions.

The news coverage has made a big deal in the last few days to state that high frequency trading disadvantages the “average” or retail trader.  In several cases it has been said that the average person has no way to have these same advantages.  That is simply untrue.  Contrary to these “stories” (which are close to fictional in some cases), co-location and the associated trading costs (commissions) are not cost prohibitive to retail traders.  Right now Lightspeed has many customers who co-locate a $5,000-$10,000 server under Lightspeed’s co-location agreement with NASDAQ.

What is utterly ironic about this “new issue” is that people are focusing on all the wrong issues. I leave you with this:

If we are so worried about the effect of High Frequency Traders upon Institutional and Retail customers we shouldn’t be talking about co-location and automated trading strategies.  We SHOULD be asking the following 2 questions:

1. Why do major broker/dealers who have their own proprietary trading divisions that utilize automated trading technology compete with the clients they are looking to serve?
    
2. If speed and a level playing field is so important to retail customers, and I strongly believe it is, why isn’t every retail customer using a direct access trading platform (and getting rid of an out-of-date web based platform), that is co-located, which has all the institutional tools built into it (for example, Lightspeed Trader)?