Stocks Waft Higher, Oblivious to Reality


Stocks are in a warp now, moving in a parallel universe with no apparent connection to the observable world. The worst housing news in nearly 50 years pushed shares lower for a relative blink of an eye yesterday, then it was back to the races after Helicopter Ben affirmed for the umpteenth time that the Fed would not be tightening any time soon.  Recall that it was just a week ago that the Fed announced it would raise the discount rate by half, to 0.75 percent. Even though this administered rate has become largely irrelevant to bank borrowing, the markets reacted as though the announcement had been momentous. The dollar soared, gold fell, and the unbiased observer might have concluded that something important had occurred. In fact, nothing of significance had changed. That’s because banks that face short-term stresses neeed not borrow directly from the Fed; instead, they borrow “excess reserves” from each other at the federal funds rate – the rate the Fed conspicuously left unchanged last week at 0.25 percent.


Wall Street has been assured of easy money for so long, and so many times, that one might have expected Bernanke’s latest re-assurance to have had no impact whatsoever. But the fact that it moved the markets higher does not necessarily mean traders thought there was anything new or significant in the Fed chairman’s speech. No, they bought stocks simply because they believed that’s what all the other traders would do.  It therefore wasn’t the speech itself that caused stocks to rally, but rather the fear of being left in the dust when others reacted. And because there was no way to construe Bernanke’s message as bearish, the only option was to go with the flow and buy stocks.

Diabolical Machines

We use that word “flow” euphemistically, by the way, since shares are increasingly being driven up, down and sideways by computers imbued with diabolical cunning to do battle with each other. Do you remember the fearsome little creature that burst from the crew member’s chest in “Alien”?   That critter was a good analog for the kind of primeval thought process it takes to succeed in the algorithmic trading world.  The cutting edge these days is high-frequency trading, a good description of which was provided in the Rick’s Picks chat room yesterday by a trader who evidently knows what he’s up against:  “This is done by the big boys, mostly banks that have high-speed computers co-located at the exchange (for the speediest nano-second execution) where they can read your orders in less than microseconds, take them from you and sell them to another bidder with the best spread before your broker can give you a read-back of your execution. They can read your stops, and when there are enough to justify a move, they will quickly buy up to them at millisecond speed in 100-share lots to spring your stops selling their accumulated inventory into them to make the fastest money you’ve ever seen. The SEC justifies all of this as ‘adding liquidity.’ Feeling ripped off yet?

When it takes that much sophistication and cleverness for Goldman Sachs, J.P. Morgan and a few others to squeeze the last few billion dollars worth of “vig” from the world’s stock exchanges, the death of the game itself cannot be far off.

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Comments on this entry are closed.

Chris T. February 26, 2010, 10:19 am

Other Paul:
>>Too much cash chasing too few stocks.

That is a heresy here, are you implying inflation? 🙂

>>“nano-second” execution and prompt, dependable settlements? Yes

Dependable settlement?
The problem with settlement delays and defaults went epidemic some time ago, and has not been resolved, you find that reassuring?

to Nuno:
>>”If it was a human doing that..”

That’s one BIG “if”. No human ever has, none ever will. Your case is not even hypothetical.
Bob’s comment gives a great answer, as to the real issues.
One other point:
Like the fraudulent paper back and forth on the COMEX (where x-times the actual physical are traded daily), this hyperspeed trading has degenerated into something out of Star Trek.
In “A Taste of Armageddon”, two planets have been fighting a virtual war for 500 years, where the computers do all the firing and destruction calculations, no physical destruction takes place. Only the affected people must report to disintegration chambers, otherwise life goes on.

Other Paul February 26, 2010, 2:12 am

We’ll know when Congress is finished its work on the Bad Boyz of Wall Street when Rick runs a piece with grab from the movie “Trading Places.”

What comes to my mind is the scene of Aykroyd and Murphy calmly writing up trading tickets after financially destroying Bellamy and Ameche in the OJ Futures pit.

jjay February 26, 2010, 1:52 am

Bernanke said the Fed is “not going to monetize the debt”
Since when?
Obama wants to outlaw foreclosures unless they go through HAMP first.
As Homer Simpson’s first rule of success at work states, “Great idea boss!”

Bob February 26, 2010, 12:08 am

Nuno — First of all there is everything wrong with co-location of computers at the exchange. It blatantly provides an advantage to only a few. Secondly, the black box guys are doing a helluva lot more than the specialists of the past. The specialists knew where the stops were and would indeed “run” them as they pleased, but they didn’t have algorithms to automate it across the spectrum of stocks, to “phish out” in 100 share lots whatever they wanted to do, be it run stops, paint the tape or otherwise affect the market. It is not efficiency or liquidity these people are providing. It is rather a hijacking of free market movements on a scale that has never been seen before for the benefit of a very select few. This whole affair is truly souring people on the markets as they begin to realize it is not really a public market after all, but rather a market only for the co-located few. What’s the HFT volume these days? 60%? 70%? Somewhere in that area. It’s a distortion, Nuno. A big distortion and it’s not healthy for any of us including the black box guys.

Doug February 25, 2010, 7:16 pm

Robert and Other Paul: When writing your congressman make sure you drop in a couple of those newly printed 100’s….it seems to be working well for the banking lobby.

coolsaint February 25, 2010, 4:23 pm

I used to think only 2 types of people were buying stocks . The Feds provided with liquidity by the treasury using tax payers money and idiots . I guess there’s now a third group called “COMPUTERS” . Here comes the TERMINATOR !!!!

Robert February 25, 2010, 4:10 pm

All this, and now 5 former Treasury Secretaries joining Paul Volcker in his quest to eradicate proprietary trading at the big banks, and yet the legislation is being reported as DOA in the House… Why?

Have you written your representatives and told them to get on board with Volcker?

Nuno Branco February 25, 2010, 12:22 pm

And what is wrong with that kind of high frequency trading? If it was a human doing that, would there be complaints? What is the problem here? That they can do it better than the old-fashioned guys? Or that someone is placing stops at obvious places?

There is nothing new under the sun, they are just more efficient.

Other Paul February 25, 2010, 6:39 am

Too much cash chasing too few stocks. I remember that mantra a few years ago. The world was going to run out of stocks to buy. Get ’em while you still could.

Are today’s stock and bond markets levels telling us that there is too much cash (“real” or QE’d into existence) around? Why a P-E on the S&P500 over 20 with 10%–20% unemployment? Why are 30 yr Treasuries under 4.65% with looming $100T social obligations? Why zero to negative yields on T-bills with $1+T deficits as far as the eye can see?

Invest in illiquid houses and commercial real estate? No. Invest in stocks and bonds with “nano-second” execution and prompt, dependable settlements? Yes.

Slightly related: The US Bureau of Printing and Engraving publishes how much currency is printed, $1s to $100s. Between 1984 and 2009, the Bureau’s annual output of 100s has increased 10 times. In 2009, there were slightly less 100s printed than $5s, $10s, $20s, and $50s combined (in quantity, not $ value).

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