Stock Market is Increasingly Irrelevant (Felix Salmon)

Seeking Alpha
By Felix Salmon
February 14, 2011

I’m sad that my NYT op-ed on the decline of stock exchanges went to press too late to include the bonkers rhetoric emanating from Chuck Schumer:

The New York Stock Exchange is the cradle of American capitalism. It is a national treasure. In America, we start each day in our Congress and in our classrooms with the Pledge of Allegiance, and we also start it with the ringing of the bell on the floor of the stock exchange.

The NYSE is in no sense the cradle of anything. A cradle is a safe place for the young to develop until they grow up and become more self-sufficient. Y Combinator is a cradle. The NYSE is place for algorithms and speculators to make bets on financial assets. It last funneled real amounts of money into the broader economy during the dot-com boom, leaving behind a lot of Aeron chairs and little else. Since then, I get the feeling that the big capital raises on U.S. exchanges have been by financial institutions, rather than the real economy; maybe someone can find a breakdown for me of which sectors raised the most money in primary and secondary offerings over the past ten years.

As for the idea that the NYSE is a national treasure akin to the Pledge of Allegiance, well, yes. Which is to say, its value is symbolic, and rooted in the days of old, when “allegiance” meant something more than who you’re friends with on Facebook, and when institutions were judged on the size and weight of their Corinthian columns.

There’s one other point I would have liked to make in my piece, which is that the tax code is a large part of the reason why the stock market is bad at capital formation. Look at the trillions of dollars cash on corporate balance sheets: why aren’t those companies paying it out as dividends to their shareholders? In an efficient capital market, they would do just that, and then raise new equity capital as and when they needed it in future. After all, sitting on billions of dollars in cash is hardly a core competency of most exchange-listed corporations.

But companies don’t do that. It’s partly because they fear that the money might not be there when they need it. But it’s also because the cost to shareholders of dividending out money now and then getting it back again in future is enormous. For one thing, the underwriters of the secondary offering are likely to require a hefty seven-figure fee when you ask them to raise that money for you. And more importantly than that, the shareholders you send the dividend to are going to have to pay income tax on it, at rates in the region of 35% to 40%. There’s no way that can be efficient.

I’m not saying that we should abolish the income tax on dividends. But it does help to explain why U.S. capitalism can be very inefficient, and why the stock market, broadly speaking isn’t working very well these days when it comes to its core function of capital allocation.

More Articles by Felix Salmon

NYSE Rule 48 (to assure an orderly manipulation of the stock market)

By Matt Phillips
May 20, 2010

If you’re interested. Here’s the text of “Rule 48,” which the NYSE invoked to smooth the open today. Here’s the Cliffs Notes version:

(a) In the event that extremely high market volatility is likely to have a Floor-wide impact on the ability of [Designated Market Makers] to arrange for the fair and orderly opening, reopening following a market-wide halt of trading at the Exchange, or closing of trading at the Exchange and that absent relief, the operation of the Exchange is likely to be impaired, a qualified Exchange officer may declare an extreme market volatility condition with respect to trading on or through the facilities of the Exchange.

(b) In the event that an extreme market volatility condition is declared with respect to trading on or through the facilities of the Exchange, a qualified Exchange officer shall be empowered to temporarily suspend at the opening of trading or reopening of trading following a market-wide trading halt: (i) the need for prior Floor Official or prior NYSE Floor operations approval to open or reopen a security at the Exchange (Rules 123D(1) and 79A.30); and/or (ii) applicable requirements to make pre-opening indications in a security (Rules 15 and 123D(1)).

Dow Jones’ Kristina Peterson explained it pretty well in a story earlier this month. She writes that basically it means the designated market makers “will not have to disseminate price indications before the bell, making it easier and faster to open stocks. The rule was approved by the Securities and Exchange Commission on Dec. 6, 2007 and has been used rarely since then.”

Shorts Refuse To Capitulate: End Of September NYSE Short Interest Near Record Highs (Zero Hedge)

Zero Hedge

10/12/10

The one side-effect of the torrid market move over the past 40 days that every bull had been hoping for, a massive, and self-sustaining short covering spree, has completely failed to materialize. Despite what is now a 10%+ move since early September, predicated by nothing more than the dollar debasement and QE2 expectations, NYSE short interest remained virtually unchanged for the past 30 days, starting the month at 14.36 billion shares and ending the month at 14.35 billion!

In other words, the shorts' conviction that the rally is based on nothing fundamental is as strong now as it was when they were 10% more in the money. And that they are willing to experience such pain reinforces their expectation, right or not, that the market is way overbought and is due for a major pullback.

As for the observation that neither retail, nor long-only, nor short-covering was a buying force in the September rally, once again begging the question just who did all this buying, we will leave that open.

The Financial Situation in the United States...The Onion recap

Something About Tax Cuts Or Earnings

Or Money Or Something

In Recent Economic News

The Onion (9/29/10)

WASHINGTON—Some sort of tax cut or earnings or money or something was reported in economic news this week in further evidence that a lot of financial- related things have been going on lately.

According to numerous articles and economics segments from major media outlets, experts on banks and such have become increasingly concerned over a new extension or rates or a proposal or compromise that could signal fewer investments, and dollars, and so on.

The experts confirmed that the stimulus has played a role.

"This is a clear sign of a changing cycle," some top guy at one of the big banks in New York said of purchasing power parity or possibly rate of return during a recent interview on CNN. "Which isn't to say that a sustained drop in wages couldn't still occur, even if the interest paid on reserves is lowered."

"In short, it's possible but not probable that growth could outpace our initial expectations," added the banking guy, who went on to say other money things, too. "It depends on investor sentiment.

The man, who also apparently mentioned the Nasdaq, the Dow, and the Japan one at some point or another, talked for a really long time about credit or reductions or possibly all these figures, which somehow relate to China.

Greece was also involved.

An analyst from Citigroup or Citibank announced on Monday that the Federal Reserve System is doing too much, while the Fed has failed to accomplish its goals to increase inflation or interest, which are different things. In addition, he was critical of the Fed's efforts to regulate the Bernanke.

"There might be a light at the end of the tunnel, but right now the markets are still struggling," the man who was wearing a blue suit and red tie said about some special money tunnel. "At this point, though, it's too early to say."

The head Treasury person, whose name sounds like Guyver or Meisner, appeared on every major network this week, either to assure Americans that everything was better or was going to get better or was never going to get better. Some other guy argued that it has never been that good. During interviews, the Treasury guy was observed on several occasions smiling or wincing.

According to a recent issue of The Wall Street Journal, there are currently a bunch of columns filled with a wide variety of numbers, letters, and symbols.

Geithner—that is the Treasury guy's name.

Another expert, Lawrence Kudlow, who hosts the CNBC program The Kudlow Report, was upbeat over the amount of points available in the industrial average or pleased with where the percentages were at.

"It's simple, actually, because the current dividend yield is equivalent to the most recent full-year dividend divided by the current share price," Kudlow said really quickly. "And that's basically the situation we're in now, for better or worse."

Paul Krugman, New York Times columnist and 2008 winner of the Nobel Prize for something in one of those economics categories, acknowledged in an editorial this week that the SEC must work closely with the stock market, Wall Street, and the New York Stock Exchange to maintain the bulls, bears, and opening bells. Krugman also said something could spur lending or trading or budgetary measures.

Although it has not been totally determined whether Krugman agrees with leading experts on assets or retail sales data or other fiscal things, reliable sources have confirmed that he has a beard.

Time or Newsweek recently published a cover story on the recession or the government debt or incomes or GDP or something similar to that, but kind of focused on how it's the fault of the rich, the middle class, and the poor.

In addition, mutual funds, probably

From Grandpa's persepctive, The Onion has nailed it!

FINRA censured and fined New York-based Trillium Brokerage Services, LLC,

Trillium traders created a false appearance

of buy- or sell-side pressure.

A.K.A. MARKET MANIPULATION

WASHINGTON--(BUSINESS WIRE)--The Financial Industry Regulatory Authority (FINRA) today announced that it has censured and fined New York-based Trillium Brokerage Services, LLC, $1 million for using an illicit high frequency trading strategy and related supervisory failures. Trillium, through nine proprietary traders, entered numerous layered, non-bona fide market moving orders to generate selling or buying interest in specific stocks. By entering the non-bona fide orders, often in substantial size relative to a stock’s overall legitimate pending order volume, Trillium traders created a false appearance of buy- or sell-side pressure.

This trading strategy induced other market participants to enter orders to execute against limit orders previously entered by the Trillium traders. Once their orders were filled, the Trillium traders would then immediately cancel orders that had only been designed to create the false appearance of market activity. As a result of this improper high frequency trading strategy, Trillium’s traders obtained advantageous prices that otherwise would not have been available to them on 46,000 occasions. Other market participants were unaware that they were acting on the layered, illegitimate orders entered by Trillium traders.

In addition to the nine traders, FINRA also took action against Trillium’s Director of Trading and its Chief Compliance Officer. The 11 individuals were suspended from the securities industry or as principals for periods ranging from six months to two years. FINRA levied a total of $802,500 in fines against the individuals, ranging from $12,500 to $220,000, and required the traders to pay out disgorgements totaling about $292,000.

Calling Mary Schapiro...Calling Mary Schapiro...

“Trillium’s trading conduct was designed to improperly bait unsuspecting market participants into executing trades at illegitimately high or low prices for the advantage of Trillium’s traders,” said Thomas R. Gira, Executive Vice President, FINRA Market Regulation. “FINRA will continue to aggressively pursue disciplinary action for illegal conduct, including abusive momentum ignition strategies and high frequency trading activity that inappropriately undermines legitimate trading activity, in addition to related supervisory failures.”

FINRA’s investigation found that nine Trillium proprietary traders intentionally created the appearance of substantial selling or buying interest in the NASDAQ Stock Market and NYSE Arca exchange. Trillium’s traders bought and sold NASDAQ securities in this manner in over 46,000 instances, resulting in total profits of approximately $575,000, of which the firm retained over $173,000 and subsequently was required to disgorge. List of the Dirty 11

Regulators Looking Into Role 'Quote Stuffing' May Have Played in Flash Crash

NYSE Regulation, Inc., is a not-for-profit corporation dedicated to strengthening market integrity and investor protection. In addition to its regulatory responsibilities to enforce marketplace rules and federal securities laws of the New York Stock Exchange, NYSE Regulation oversees NYSE Arca Regulation and NYSE Amex Regulation through regulatory services agreements.


At the core of the NYSE Rulebook are the underlying notions of just and equitable principles of trade and sound business practices. The rules are designed to prevent fraudulent or manipulative acts and practices, and provide a means by which NYSE Regulation can take appropriate disciplinary actions against its membership when rule violations occur.

By Tom Lauricella and Jenny Strasburg

Regulators are scrutinizing what some in the stock market are calling "quote stuffing," trading in which unusually large numbers of orders to buy or sell stocks are placed in a fraction of a second, only to be canceled almost immediately.

The Securities and Exchange Commission has begun looking into whether the practice is putting some investors at a disadvantage by distorting stock prices, according to people familiar with the matter. The SEC is looking at what role, if any, quote stuffing played in the May 6 "flash crash," when the Dow Jones Industrial Average collapsed 700 points in minutes, the people say.

Traders say the phenomenon of huge bursts of orders flooding stocks and then getting canceled has risen with the growth of high-speed computerized trading in recent years.

In addition, the SEC is looking into another practice in which large numbers of orders are placed. In these cases, what's unusual is that the orders are priced in increments as small as one-tenth of a cent and far away from the actual price at which a stock is trading, says a person familiar with the line of inquiry.

The SEC is seeking to learn whether such orders, known as "sub-penny pricing," are used to manipulate the market, this person says, which would be illegal. At issue is whether the practice could artificially torpedo stocks' prices or help make it appear that there is more trading volume in a stock than there really is, allowing sellers to profit when demand for the stock appears elevated. The agency has identified about half a dozen investment firms to question regarding "sub-penny" orders, this person says, and the inquiry is expected to take months to complete. The firms identified aren't necessarily suspected of wrongdoing, and it is unclear whether there will be a formal investigation. An SEC spokesman declined to comment on the inquiry.

These issues are among the latest to have emerged as stock trading has become dominated by super-fast computer systems used by hedge funds. At the same time, the once-clubby world of a handful of stock exchanges has evolved into many more decentralized, loosely connected, high-speed electronic trading networks.

The transformation of the stock market has some benefits for investors, of course, including some lower costs. And some say greater volume of canceled orders is a natural consequence of high-speed markets, where traders constantly troll across exchanges for the best price.

But the risks of high-speed crashes became clear during the so-called flash crash. And as the questions being asked about quote-stuffing suggest, the combination of powerful computers and fragmented stock markets may have opened the door to new trading tactics that regulators are finding hard to track and police.

Issues surrounding canceled orders have gained exposure in recent weeks since Nanex LLC, a stock-data provider, published data showing large swaths of canceled orders on May 6 and also identified other examples taking place before and since.

For example, on Aug. 17, from the start of stock trading at 9:30 a.m. until just after 9:51, there were, on average, 38 orders every second to buy or sell shares of Abbott Labs through the New York Stock Exchange, according to Nanex.

Then, in the span of one second, 10,704 orders hit Abbott and in the next second, another 5,483. And all but 14 of those combined orders were canceled within one second, according to data from Nanex.

On Wednesday, "quote stuffing" appeared to have played a role in bogging down trading of one of the most widely traded stocks, the SPDR Sand P 500 exchange traded fund, according to Nanex

"There are dozens, sometimes hundreds of these occurring every day," says Eric Hunsader, one of the founders of Nanex, who theorizes that distortions caused by "quote stuffing" were so large on May 6 that they helped destabilize the market.

Nanex has shared data with regulators. SEC officials have held conference calls to discuss Nanex data and theories, say people familiar with the matter. Issues related to high-volume cancellations could be part of the agency's report on causes of the flash crash, say people close to the matter. The report is expected to be released within the next month.

Nasdaq OMX executives have discussed cancellation volumes as part of overall transaction-monitoring, in part because canceled orders take up computer power and therefore cost money, say people familiar with the matter.

During the past year, Nasdaq officials have examined whether the exchange should charge customers for "excessive cancellations," one person says. But in an electronic trading world, it's difficult to draw the line between orders canceled in the normal course of business and excessive cancellations, let alone orders placed and canceled for potentially improper reasons, the person says.

Some in the market suspect the flood of orders is the result of high-frequency traders attempting to profit from tiny discrepancies in stock prices. They say waves of orders slow down electronic stock-trading networks or otherwise distort stock prices, creating profit opportunity to buy or sell at artificially high or low prices.

Others say the canceled orders are above board, reflecting either legitimate behavior by traders in search of profitable trades, basic market-making, where broker-dealers constantly provide quotes for potential trades and then cancel, or computer programs gone awry.

One thing is clear, say traders and regulators: An eye-popping number of the stock quotes entered in the U.S. market's exchange system are canceled.

For example, on Feb. 18, trading volume on the Nasdaq exchange totaled about 1.247 billion shares, according to data compiled by T3 Capital Management, a New York hedge fund. However, over the course of the same day traders submitted offers to buy or sell stock for roughly 89.704 billion shares. In other words, only 1% of the orders posted on Nasdaq actually traded.

While a portion of cancellations are part of the natural course of trading, Sean Hendelman, chief executive officer at T3, says he believes most of these canceled stock quotes are from traders loading up a stock's computerized order book with essentially fake bids and offers.

Mr. Hendelman, whose firm employs other high-frequency trading tactics, says the practice creates an inaccurate picture of the true supply and demand for a stock. "People are relying on the [stock quote data] and the data is not real," he says.

Nanex scrutinized trading of Procter & Gamble shares on April 28, a week before the flash crash, and found that a burst of orders were sent to the NYSE shortly before 11:48 and quickly canceled. Soon after, the NYSE quote reporting system temporarily fell several seconds behind that of the Consolidated Quote System, which brings together quote feeds from stock exchanges such as Nasdaq and BATS Global Markets.

That in turn was followed by a flurry of trades where P&G shares were bought at the lower, up-to-date prices published by BATS, and sold at higher NYSE quotes that weren't as recent—a profit opportunity.