For at least the past 16 years, stock market traders have apparently been profiting from sneak peeks at the most important monetary policy decisions in the world. But the markets are not rigged! No, sir.
Interest rate decisions by the Federal Reserve's policy committee between 1997 and 2013 were regularly leaked, generating hundreds of millions of dollars in profits for traders who got the information ahead of the rest of the market, according to a new study by Gennaro Bernile, Jianfeng Hu and Yuehua Tang of Singapore Management University, first reported by Bloomberg.
"Consistent with information leakage, we find robust evidence of informed trading during lockup periods ahead of the Federal Open Market Committee (FOMC) monetary policy announcements," the authors wrote.
Reporters at Fed headquarters in Washington have long gotten Fed policy statements before they are released to the public, giving them some time to write stories. They're under orders not to leak the data, obviously, but people have suspected for a while that the information was getting out anyway. The Fed tightened its controls in October, including blocking lines that connected reporters to the Internet in the Fed "lockup" room.
On a brighter note, the study found no evidence of traders getting leaks of government economic data, like the monthly inflation or jobs reports. But there are clearly holes in that system, too, and it's the subject of an FBI probe that launched last year.
The study's findings come in the middle of a heated debate about whether the stock market is "rigged" against small investors, as Michael Lewis recently claimed in his book Flash Boys. The high-frequency traders profiled in that book routinely take advantage of their speed, and occasional early peeks at news and data, to run ahead of slower traders to make big profits. Some, like me, call this rigging the market in favor of some traders over others -- although it has no impact on individual investors who just keep their money in index funds and forget about it (my preferred approach).
This particular study, however, focuses on a different, more old-fashioned kind of rigging. It's trading on material information you get in a non-kosher fashion. Even in this instance, some might consider this a victimless crime -- trading of this sort only makes markets more efficient, after all.
But it also contributes to the erosion of investor faith in markets. Again, that may or may not be a bad thing, depending on your perspective. To the extent it gets people to stop foolishly trying to trade against professionals who probably have an information advantage, it's a good thing.