Why the Average Joe Investor Can't Trust the Stock Market
Most Americans don't think much about the stock market, and that's just fine with Wall Street. Because once you wake up to how screwed up the stock market really is, the financial industry knows you're likely to get very nervous and take your money out.
Many are catching on: between 2007 and 2014, investors pulled $345bn from the stock market. E-Trades are down and worries are up, with 73% of Americans still not inclined to buy stocks, five years after the financial crisis.
No wonder "investor confidence" – the mass delusion that the stock market is trustworthy – has been in short supply this year. Nothing has done more to decimate it than Michael Lewis's new book, Flash Boys, which focuses on the predatory behavior of high-frequency trading. Nobody – including Congress – cared much about the "high-tech predator stalking the equity markets" before Flash Boys hit the bestseller list, reaching beyond the walled garden of the financial industry into American dining rooms and Washington hearing chambers. It didn't leave all spring.
So last week, Washington featured a lot of handwringing, in two separate Congressional panels, about how to convince Average Joe investors that the stock market is their friend – even when it obviously isn't. And it's great that elected officials and Wall Street millionaires are talking about investor confidence. But they're not talking about what really matters: investor protection. Guaranteeing that everyone gets a fair shake. Un-rigging the stock market.
Yet in Congress, the worry is all about appearances.
"We've heard a consistent message, and that's that there is a lack of confidence in the [stock] markets," Senator Carl Levin said on Tuesday to open his Senate investigations subcommittee panel inspired by Flash Boys. New York Stock Exchange president Tom Farley echoed that sentiment, testifying that participation of US citizens in the stock market is at a 16-year low – and blaming regular investors for simply not believing enough: "We think the reason for that is [lack of] confidence in the markets."
Let's get one thing straight: Investor confidence is not the problem. The screwed-up stock market is the problem. It's time to break down the polite fiction that investing in the stock market is something that sane, rational, sensible people do. It is a high-risk contact sport for your money.
If you know that, you're ahead of the game.
And the more you read about the new game in town, the more nervous you should get about high-frequency trading (HFT).
Rich, elite traders are making millions of dollars in bonuses by using super-fast computers to swoop into the stock market and conduct trades in milliseconds, faster than even most professionals and certainly faster than any Average Joe. The HFT industry – a collection of stock exchanges, hedge funds, banks and others that has actually been around for six years – collects billions of dollars in profits: the kind of money you just can't earn unless you elbow someone else out of the way. Numerous studies show that Flash Boys-style trades affect stock prices and increase fees for long-term investors. The New York state attorney general even has a nickname for it – "Insider Trading 2.0" – and now would-be investors are starting to realize, once again, just how much the decks are stacked against them.
As Senator Elizabeth Warren noted at her Senate panel on Wednesday, one high-frequency trading firm, Virtu, made a profit on 1,237 out of 1,238 trading days. "You know, this isn't trading," Warren said. "Traders have good days and bad days... but high-frequency traders have only good days."
Nice work if you can get it.
Brad Katsuyama is the founder of an alternative stock exchange called IEX. He's also the hero of Flash Boys. When the book came out, he explicitly said on CNBC, a financial news channel that’s piped into most investment banks, "I believe the market is rigged." (He left it to Lewis to tell that to Average Joes on 60 Minutes and elsewhere, including these pages.)
Yet last week, confronted under oath in a public forum on Senator Levin's panel, Katsuyama started to waffle, equivocating that "'rigged' is a loaded word".
His Wall Street face didn't match his Main Street face. No surprise there. The US stock market depends entirely on the ignorance of regular people who are supposed to just shovel their money into retirement funds and 401(k)s, pay a whopping one-third of your retirement in fees to high-priced managers, and never whisper a complaint.
Perhaps above all, last week's dog-and-pony show in Washington revealed that Congress is still too afraid to call out Wall Street on its hypocrisy – that even if you did file a complaint, Washington would never take it very high up the Flash Boy food chain.
While Farley, the New York Stock Exchange president, was on the stand in front of Senators, bemoaning the effect of HFT trading on investor confidence, the NYSE was busy collecting fees from on those very same high-tech firms for giving them access to faster trades and better servers. One such fast "pipe" for quicker trading allows the NYSE to charge hedge funds $40,000 a month – each! – to do basic deals. Other firms trotted out their executives crying crocodile tears about the unfairness for regular investors ... while they palmed handfuls of cash from the souped-up rigging machine. That's what's called a conflict of interest, and there are hundreds of cozy arrangements that benefit big Wall Street traders with regular people none the wiser.
That's why the summer of our high-speed discontent is not about wondering why regular investors don't trust the market. It's a wonder that anyone does at all.