Why Are Exchanges For-Profits?

Call it the revenge of Dick Grasso:

Since May 17, 1792, when the Buttonwood Agreement was signed by 24 stock brokers outside of 68 Wall Street (under a buttonwood tree), the NYSE has been a non-profit, run for the greater benefit of the public companies that trade there.

Following the brouhaha over NYSE Dick Grasso’s pay — New York State law at the time prohibited excess compensation for executives at non-profits — that changed. In 2006, the NYSE and ArcaEx merge, creating NYSE Arca — forming the publicly owned, for-profit NYSE Group. They later merge with Euronext.

Why is this significant?

As a for profit entity, the exchange is concerned with maximizing profitability. Hence, selling co-located servers for high frequency traders becomes a new revenue source. Allowing flash traders to see order flow of the public — also for a fee — is permitted, consequence be damned.

The SEC investigation of the so-called Flash Crash will be out next month, and these HFT are likely to be blamed, at least in part, for the disruptions.

Jim McTague in Barron’s reports:

“A final report on the Flash Crash by the staffs of the Securities and Exchange Commission and the Commodities Futures Trading Commission, due in September, will reveal that when the market went into an apparent death spiral around 2:30 p.m., virtually every professional trader immediately high-tailed it for the hills, an SEC staffer indicated in a public meeting last week. As a result, panicked retail investors were left on their own, struggling to liquidate their positions to save the profits they had amassed from the beginning of the year.

With the pros gone, so was liquidity—the ability to convert equity into cash. Bids on stocks that the pros—hedge funds, institutions, and high-frequency traders—had posted earlier disappeared with the big boys. The market suddenly had no depth. The dam had burst, and the reservoir was empty. All that was left, the SEC staffer suggested, were “stub quotes,” bid and ask prices ridiculously outside the usual trading range of a stock. The prices get posted to satisfy an essentially pointless regulation.”

Anyone care to hazard any guesses about the following?

• What was the cause of the crash?

• How much are the exchanges themselves to blame?

• What proposed solutions will the SEC suggest ? What might they insist upon?

• What will HFT look like in the future? Will it be modified slightly, dramatically curtailed, or banned outright?


Dirty Rotten Scoundrels
Jim McTague
Barron’s August 14, 2010

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