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The Worst Response Yet To The New Michael Lewis Book

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WASHINGTON -- Author Michael Lewis and other critics of high-frequency trading are wrong, because computers.

That's the upshot of some new talking points being distributed on Capitol Hill, written by Richard Gorelick, CEO of RGM Advisors, an Austin, Texas-based company that dubs itself "a technology focused quantitative trading firm." Gorelick's tirade against Lewis is being distributed to Capitol Hill staffers by a GOP finance lobbyist.

A sample:

The truth is that while the markets have changed dramatically since the days in the 1980s chronicled by Lewis in Liar's Poker, most of these changes have been for the better for investors. Back then, Wall Street traders stood on trading floors, and matched buyers and sellers manually with shouts and hand gestures. The floor traders were shielded from much competition or public visibility, and as a result, transaction costs for investors were very high -- multiples of what they are now.

Today, this process is dramatically different. The vast majority of trades are matched by computers more efficiently than in the old days, and with many fewer errors. As a result, markets have become more competitive and more transparent, profit margins for intermediaries have been squeezed to much less than a penny a share, and, by every available metric, trading costs for both retail and institutional investors have declined dramatically.

Lewis' new book, Flash Boys, doesn't really take a position on whether or not computers themselves are a good thing, as Gorelick's bullet points would appear to suggest.

But Lewis does sharply criticize high-frequency trading, which allows some traders to manipulate markets for surefire profit. Lewis details several different trading schemes in the book. In one such scheme he explained during an episode of CBS' "60 Minutes" Sunday night, Wall Street insiders with the right trading platform can view an order to buy stock before it is executed, swoop in and buy the stock, and then sell it to the original buyer at a higher price -- all in less than a second.

One obviously would not need to eliminate computers to address complaints about the integrity of the existing high-frequency trading structure. In the book Lewis actually profiles Brad Katsuyama, who founded his own stock exchange to fight HFT abuses.

UPDATE: Kenneth Schiciano, a member of RGM Advisors' Board of Directors, emailed a response to this article after publication. While there was no text in the body of the email, the subject reads, "you are a loser." Schiciano is also a managing director at the Boston-based private equity firm TA Associates. A screenshot of his email is below.

Read the full text of Gorelick's missive:

Lewis Book Misses The Big Picture

Michael Lewis’ new book is certainly generating its share of attention and controversy. Unfortunately, it gets many things wrong and completely misses the big picture of today's modern financial markets. Lewis instead chose to focus on business models that benefit from scaring the public about the markets. The investing public deserves better than this kind of fear mongering.

  • The truth is that while the markets have changed dramatically since the days in the 1980s chronicled by Lewis in Liar's Poker, most of these changes have been for the better for investors. Back then, Wall Street traders stood on trading floors, and matched buyers and sellers manually with shouts and hand gestures. The floor traders were shielded from much competition or public visibility, and as a result, transaction costs for investors were very high -- multiples of what they are now.
  • Today, this process is dramatically different. The vast majority of trades are matched by computers more efficiently than in the old days, and with many fewer errors. As a result, markets have become more competitive and more transparent, profit margins for intermediaries have been squeezed to much less than a penny a share, and, by every available metric, trading costs for both retail and institutional investors have declined dramatically.
  • The evidence is clear. Vanguard's former Chief Investment Officer perhaps put it best when he stated that investors saving for retirement could see their balances increase by as much as 30% due to such cost savings. That is not trivial, and something Michael Lewis's new book conveniently ignores.
  • The graph below plots the decline in all-in trading costs for institutional investors like mutual funds. The improvement for retail investors has been even more dramatic.
  • There are many reasonable critiques that can be made about today's markets, and many ways indeed to improve them. However, it would be a mistake to think about imposing changes that might feel good, but would instead turn away from the openness, transparency, and modernization that have provided so many tangible benefits to investors of all sizes.

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