Joseph Saluzzi (jsaluzzi-at-ThemisTrading.com) and Sal L. Arnuk (sarnuk-at-ThemisTrading.com) are co-heads of the equity trading desk at Themis Trading LLC (www.themistrading.com), an independent, no conflict agency brokerage firm specializing in trading listed and OTC equities for institutions. Prior to founding Themis, Sal and Joe worked for more than 10 years at Instinet Corporation, pioneers in the field of electronic trading, and at Morgan Stanley.
Ok, Let’s start the new year with a quiz. Which of the above pictures can NOT be best described as having a life expectancy of one week? Take your time; it is not a latency-sensitive problem. The answer is… the Kardashian-Humphries marriage! Yes, that lasted three days, and not a week.
As for the other choices, the luna-moth has a life expectancy of exactly one week. It has no mouth, and is born to just romance a mate and die. It lives for love, yes. And the other choice refers to our latest and greatest derivative, the one-week option. According to Andy Nybo, head of derivatives at Tabb Group LLC, “if you’re looking for what’s been driving the market this year, a lot of it can be attributed to short-term options.” In the article that he is quoted, One-Week Contracts Lift Volumes to Ninth Straight Record: Options (Nina Mehta, Whitney Kisling, and Katia Porzecanski), trading in these one-week contracts is largely responsible for exchange-listed options volume reaching a ninth straight annual record.
While the article talks about how this product is retail-friendly, with a lot of “bang for the buck” due to limited time value of the options, and that it is useful for covered call writing, we at Themis think there are other reasons that the exchanges have been focusing on these short term derivative instruments: they are what the exchanges’ biggest customers want to trade. Why? HFT “market makers” want products that are short term, higher volume, and with limited-trading-risk, for them to play rebate arbitrage. For them one-week options are rocket fuel for their rebate-arbitrage strategies, and more so than long term options, where they play less, as well as equity shares in Berkshire Hathaway.
You see, since Reg NMS’s implementation, exchanges have not been really been making money on regular equity trading. Their growth has come from market data services, access services, and derivative trading volume. Cash equity trading revenue has pretty much declined for all the major exchanges, and issuer revenue has been flat. Just gander at Nasdaq’s revenue breakdown since the implementation of Reg NMS in 2007 to see what we mean.
This is why for-profit exchanges perpetually follow the money, and what their largest HFT clients want, instead of what is good for investors.
Actually, as for-profit business entities, what is to stop them from shutting down the trading of stocks period, if stock trading continues to suffer from margin pressure and investor flight? Where then will we look to invest and trade in Proctor & Gamble, Prudential, McDonald’s, and Abbott Labs?