Emily Lambert: GM handed its keys to the poster child for high-frequency trading (great job Emily!)

The exchange anointed Getco a

designed market maker earlier this year.

By Emily Lambert
Trading Places
Forbes
11/18/10
When General Motors’ stock started trading Thursday on the New York Stock Exchange, it marked a milestone. Not just for the car maker formerly known as Government Motors. The day also represented an important coming out of sorts for Getco, the high-frequency trading shop that handled the opening of GM trading.

It’s a stunning ascent. A year ago Getco was basically a mysterious firm hiding out behind a closed door in Chicago. Now it has handled the biggest offering in history, selected over some far more famous and established firms including Bank of America and Goldman Sachs. It looks like Getco, not long ago an outsider, is part of the establishment and a pillar of the American economy, or something of the sort.

Why Getco? “No comment,” says a GM spokesman. Getco is similarly tight-lipped.

To be sure, Getco’s role should not be confused with that of the underwriter at an investment bank. Underwriters prepare a company for a stock launch. They take the company on a road show to meet potential investors, and they set the opening price for the stock. For this, they take their mammoth fees. (Supposedly these fees are clearly found in the prospectus. If you see them, please e-mail me.) GM’s lead underwriters were Morgan Stanley and JP Morgan Chase.

But once those underwriters did their work for GM, it was Getco’s turn. GM selected Getco to be what the exchange calls a “designated market maker.” This is the company that NYSE has tasked with maintaining a fair and orderly market in the stock once it trades. Getco, as this super-special market maker, has some obligations. It promises to buy and sell the stock at the best going price and to trade even when stock price starts to get out of whack, to smooth out volatility.

It also makes money for this. It doesn’t collect fees like the underwriters do, but it will be rewarded in an ongoing fashion through its trades. It gets certain advantages that can lean the market in its favor and can lead to nice profits. There’s no guarantee of profits, and making markets like this has turned into a competitive space. But it can be a sweet deal. Why else would a firm like Getco want the job?

The designated market maker is a variation on the old “specialist” firm. Those firms were also tasked with keeping an orderly market but were accused by many of taking advantage of their role. The specialist firms generally had and exploited big informational advantages. NYSE replaced specialists with the watered-down version of designated market maker after penny spreads and electronic trading made the old boys obsolete and uncompetitive.

The exchange anointed Getco a designed market maker earlier this year. At that point Getco clearly became a “market maker” and differentiated itself from other high-frequency firms that have different trading strategies. But with GM, Getco has symbolically arrived.

It’s pretty nice to be Getco now. There are no guarantees, but presumably they’ll take advantage of the trading perks they get in GM stock and turn that into a sizeable profit. If you have to pick just one firm that’s really driving Wall Street, many will still and perhaps rightly see it as the bloodsucking vampire squid, I mean, Goldman Sachs. Investment banks are the powerhouses. But that said, in its big and fancy (re)debut, GM handed its keys to the poster child for high-frequency trading.