Has it ever happened that, you see a bid or an ask and you try to hit but it vanishes or you just get a partial execution? Well, what might be a common occurrence to you and I is what led Brad Katsuyama to start Investors Exchange (IEX).
Brad, a prodigious trader, while working for RBC was puzzled at the deteriorating execution quality. After a prolonged period of research and discover he happened upon the world of high-frequency trading (HFT).
Ronan Ryan was the son of Irish immigrants enamoured by the American dream. Ronan always wanted to work in the wall street and he just got that. He was working for a company that helped traders speed up their trades. Soon Ronan was helping traders all around the US, move to New Jersey, because that was where the stock exchanges servers were located. Little did he know that he was on the frontlines of an arms race involving traders, hedge funds and other big whales who were looks for ways to send their orders to the exchanges as fast as possible.
What these HFTs were doing were is popularly known as Frontrunning.
But in the process, it turns out smaller investors, institutions and mid-sized firms were getting a bad deal. The two men went on later to found the IEX exchange. The whole pitch of the exchange was that everybody gets the same preference regardless of the stature of the size. What this meant was that a small retail trader buying 1 share of APPLE would get the same preference as hedge funds buying a million shares. But the path was not easy for them. They had to battle the entrenched interest of wall street to build an exchange that was fair and equitable.
What they did is build a speed bump, which slowed down all orders by a tiny fraction so that everybody got the same speed. Some studies apparently found that this saved investors between 1-12 basis. (1 basis point = 1/100th of a percent) This might sound small right? Across the American stock market, 1 basis point comes to $7 billion dollars a year.
This particular episode is fascinating for a lot of reasons and I highly recommend it.
PS: If you didn’t realize, the show is hosted by Michael Lewis, the author of Flash Boys, Moneyball, The Undoing project among other bestsellers.