Article first published as Are The Markets Really Broken? on Technorati.
Yesterday morning, MarketWatch.com (a member of the Wall Street Journal digital network) published an article accusing computerized program trading of "breaking" the markets. In it, David Weidner writes, "What the flash crash tells us is that it doesn't take much to make the whole thing go haywire." Using the advent of decimal pricing as the beginning of program trading, however, it would seem that Weidner's logic is flawed.
It is incredible that there has only been one flash crash since the beginning of decimal pricing (in 2001) if program trading has made the markets as precarious as Weidner believes. Furthermore, most of the damage caused by the flash crash was reversed by the SEC in the time between market close May 6 and market open May 7. I contend that computerized program trading has little effect on the "small guy" investor as opponents suggest, and that it actually helps the health of the markets.
An important distinction to make is one between trading and investing. The behavior of the big players on Wall Street is trading. Specific securities are held for periods ranging from seconds to hours, and minute discrepancies between options, equities, and futures prices are exploited almost instantly. To make a profit from this type of market behavior takes an incredible amount of money. These frequent large trades cause high intra-day volatility compared to the pre-computerized trading era.
Investing is what the majority of Americans take part in. The mutual funds in retirement funds, stocks managed as a hobby or an attempt to beat the bank's interest rate, and options received as bonuses from corporations are handled as investments. They are usually held for weeks at minimum, and usually for years or even decades (options are often held to maturity). Intra-day volatility has no effect on these investments, and the "small guy" does not take note of it. Most Americans would not have even heard about the flash crash had the media not seized upon it as an example of Wall Street's greed and arrogance.
In conclusion, the traders of Wall Street circulate large sums of cash via computerized trading, thus stimulating markets. The algorithms automatically correct market discrepancies, thereby stabilizing the markets. The intra-day volatility this causes has little or no effect on the average investor except that as the markets grow, the companies that the investors work for grow as well. As these are the companies investors hold stock in, both traders and investors benefit from computerized trading.
It is incredible that there has only been one flash crash since the beginning of decimal pricing (in 2001) if program trading has made the markets as precarious as Weidner believes. Furthermore, most of the damage caused by the flash crash was reversed by the SEC in the time between market close May 6 and market open May 7. I contend that computerized program trading has little effect on the "small guy" investor as opponents suggest, and that it actually helps the health of the markets.
An important distinction to make is one between trading and investing. The behavior of the big players on Wall Street is trading. Specific securities are held for periods ranging from seconds to hours, and minute discrepancies between options, equities, and futures prices are exploited almost instantly. To make a profit from this type of market behavior takes an incredible amount of money. These frequent large trades cause high intra-day volatility compared to the pre-computerized trading era.
Investing is what the majority of Americans take part in. The mutual funds in retirement funds, stocks managed as a hobby or an attempt to beat the bank's interest rate, and options received as bonuses from corporations are handled as investments. They are usually held for weeks at minimum, and usually for years or even decades (options are often held to maturity). Intra-day volatility has no effect on these investments, and the "small guy" does not take note of it. Most Americans would not have even heard about the flash crash had the media not seized upon it as an example of Wall Street's greed and arrogance.
In conclusion, the traders of Wall Street circulate large sums of cash via computerized trading, thus stimulating markets. The algorithms automatically correct market discrepancies, thereby stabilizing the markets. The intra-day volatility this causes has little or no effect on the average investor except that as the markets grow, the companies that the investors work for grow as well. As these are the companies investors hold stock in, both traders and investors benefit from computerized trading.
