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‘Flash Boys’ investigates how high-frequency traders anticipate Wall Street’s next move faster

April 4, 2014 at 6:17 PM EST
Much of the stock market trading that occurs today is done with computer servers, completing hundreds of millions of orders in a system known as high-frequency trading. Author Michael Lewis has made this practice the subject of his latest book, “Flash Boys: A Wall Street Revolt.” He joins Judy Woodruff for a discussion about Wall Street trading and reform.


JUDY WOODRUFF: Often, when we discuss the financial markets, we show these pictures, shots of traders on the floor of the New York Stock Exchange, but the trading world changed several years ago.

Much of it now is done with computer servers, hundreds of millions of orders done through what is known as high-frequency trading. This week, there is a lot of buzz about a provocative new book focusing on how it has changed and how one-thousandth-of-a-second can make a big difference.

The book is titled “Flash Boys.”  The author the Michael Lewis, who also wrote “Moneyball,” “Liar’s Poker,” and “The Big Short.”

And Michael Lewis joins us now. Welcome back to the NewsHour.

MICHAEL LEWIS, Author, “Flash Boys”: Thanks for having me, yes.

JUDY WOODRUFF: So, you focus much of the story on this New York financial trader who starts out thinking the markets are all about one thing, discovers that there’s something wrong, and basically goes about trying to change everything.


JUDY WOODRUFF: Why did you focus on him?

MICHAEL LEWIS: Because I was working on something else and I needed to learn what high-frequency trading was. This is a term of art that really didn’t even exist until three or four years ago.

And it was — my ignorance was deep on the subject, and I asked big investors if they could point me in the direction of someone who knew about this. And they said, there’s this young man, he’s Canadian, who’s basically running around Wall Street explaining this to us, and he knows more about these markets than anybody. And so you ought to go see him.

And I went to see him just really on background to see — his name is Brad Katsuyama — to see what he could teach me about this. And it turned out that he was engaged in this essentially attempt to reform Wall Street from within, to kind of discover what was wrong with the stock market, how predatory activity had arisen in the stock market that he had been on the wrong end of, and then educating American investors about — about what was happening.

JUDY WOODRUFF: So the book is a narrative about him, but it’s also a much bigger story.

And you also — you start out writing about one-thousandths-of-a-second, the millisecond, and you write about laying — the whole story of trying to lay fiberoptic cables through mountains and under rivers. Why do you get into all that?

MICHAEL LEWIS: Well, I felt this story was in some ways like a symptom of the larger problem of Wall Street’s relationship to the society and why it’s gone wrong.

The fractions of a second are important, because the fractions of a second are the advantages that high-frequency traders have over the people they’re trading against, which is ordinary investors. They pay exchanges. Stock exchanges now make an awful lot of their money being paid by high-frequency traders to be given access to special information.

And banks and brokers are paid to expose their customers to be traded against by high-frequency traders. And so I thought that was interesting that the system — the system has sort of evolved to create incentives that were not in line with the larger society.

JUDY WOODRUFF: So, people have assumed — the whole premise of the stock market is that it’s a place to go where you go and everybody is supposed to be treated the same.

But much of the point of the book is that, as you said, ordinary investors are the ones who are getting the short end of the stick. And in fact, today, we know the attorney general, Eric Holder, announced that he’s going to — there’s going to be a government investigation of high-frequency trading.

MICHAEL LEWIS: And so — and what was so intriguing to me was that ordinary — ordinary investors includes everybody from the most sophisticated hedge fund managers right down to the person sitting at the computer terminal and trading on their E-Trade account.

It’s everybody who wasn’t — who doesn’t have the speed of the high-frequency traders, who don’t have their machines inside the exchange being given preferential access by the exchanges is on the wrong side of the transaction. And so this is why I think that Brad Katsuyama is able to create a movement, is that he’s got actually quite powerful people on his side.

JUDY WOODRUFF: This has caused a stir. A lot of people are writing it and talking about it. And some of the financial journalists are writing about it, people who work in the markets.

One of the things that I have read that they have said is that the people you say who are being hurt the most, they say, are actually the folks who — let me just quote here — that it’s the big investors who aren’t ones who are hurt the most. They’re the ones who are competing against each other, and that the culprits, they say, are the stock exchanges.

MICHAEL LEWIS: Well, I think it’s true that the exchanges are culpable and that they have — they have sort of abdicated their responsibility to provide a fair environment for investors to trade in.

And the banks are also culpable, because they control the stock market order flow; I mean, 70 percent of stockholders go through the big banks, and it’s hard to know what happens to your stock market order, even if you’re a big, sophisticated investor.

But I think there’s a problem. The criticism that, like, little people aren’t hurt, it’s just big people, doesn’t make such sense to me because the big people — the big people we’re talking about are mutual funds and pension funds. They’re people — they’re institutions, T. Rowe Price, that manage the savings of a lot of little people.

And, so, yes, their transactions are big, but they’re representing the interests of the American investors and the little people, like, you imagine the guy sitting there at his E-trade account, trading, you know, 500 shares of some stock. His orders are being sold by his broker to some high-frequency trader who’s paying for the right to trade against it.

Now, why would someone do that? They would do that because they have a chance to exploit that order.

JUDY WOODRUFF: But they also have a chance to gain off the order.

MICHAEL LEWIS: Well, if the market goes up or the market goes down, that’s a separate issue.

The question is, do they get the — do they get a fair market price? And the problem is that the way the market works now, investors generally, from the most sophisticated to the smallest, are essentially trading — are essentially operating with yesterday’s prices. So…

JUDY WOODRUFF: Because the market is moving…

MICHAEL LEWIS: Because the time is moving so fast, right.

So the people trading against them, the high-frequency traders, have today’s prices. And so imagine you had the results of the horse race before the race was run, and you could walk into the track and make bets against people about the race. It’s not — that’s not really a fair environment.

JUDY WOODRUFF: Let me just read one other — one other critique of the book. And that is what you’re writing about, according to a couple of financial journalists we have read, happened six years ago, that, today, high-frequency trading, the profits from it are falling, that it’s dropped from $8 billion to $1 billion. It’s still a lot of money.


JUDY WOODRUFF: In other words, that you’re behind the curve with this.


MICHAEL LEWIS: So, this is so — this is not true.

It’s true that the main character of this book and the investors who are concerned start to see problems in the market about 2008, so it’s true that it’s the first time they sensed that, whenever they trade, someone has anticipated what they’re doing and is running in front of them.

But, first, nobody actually knows how much high-frequency traders are making. Any of those estimates that get thrown out are — they’re usually kind of smoke and mirrors by someone who has some tie to high-frequency traders, because they’re all private firms. They don’t release their profits.

And it’s their profits — and it’s possible that their profits are less than they might have been a few years ago, but they are not small. They’re certainly not a billion dollars. They’re more than that. But if they’re less, it’s because the exchanges and the banks have gotten better at billing them.

So — and the profits aren’t the problem. It’s the revenue. The revenue are the scalp. That’s how much they’re taking out. And the bigger problem is that the whole structure of Wall Street has been compromised, of the stock market, has been compromised to serve the interests of the high-frequency traders.

And the result is, the market is much less stable than it should be. So we get flash crashes and IPOs that don’t work and outages at the exchanges.

JUDY WOODRUFF: And what you want from this book is what, Michael Lewis?

MICHAEL LEWIS: I want — reform of the market makes a lot of sense, the stock market, but I think it’s a bigger issue than that.

I think this kid, this Canadian kid, is actually engaged in trying to repair Wall Street’s relationship with the rest of the society by creating the proper incentives for places — for a place like a stock exchange. So I think that’s the goal, is to sort of like restore some level of trust between the society and Wall Street.

JUDY WOODRUFF: With a different financial mechanism?

MICHAEL LEWIS: Yes, with a different model.

JUDY WOODRUFF: Michael Lewis, the book is “A Wall Street Revolt: Flash Boys.”

Thank you.

MICHAEL LEWIS: Thanks for having me.