Book review: Wall St. wins again, in blink of an eye

Flash Boys

nolead begins A Wall Street Revolt
nolead ends nolead begins By Michael Lewis

W.W. Norton. 276 pp. $27.95

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Reviewed by Joseph N. DiStefano

Since the Securities and Exchange Commission blessed the conversion of America's stock exchanges from capitalist brokers' cooperatives to privately owned, for-profit markets, the bright-jacketed brokers who once jammed busy trading floors have mostly "gone upstairs" to buy and sell from office computer screens.

Yet the number of new, well-financed, all-electronic securities markets has proliferated. In Flash Boys, Michael Lewis ties this and other strange developments into a masterly narrative that includes unregulated "dark pool" trading, the counterintuitive practice of markets paying investment firms for customers' "order flow" instead of charging them trading fees, and the frantic "co-location" of traders' telecom nodes to market server clusters near New York-area stock markets and Chicago-area options markets.

Lewis shows how "high-frequency" traders slice and pocket fractions of investors' stock trades before they can close by using cutting-edge equipment, Wall Street capital, and genius computer algorithms that in milliseconds locate and exploit buy and sell orders at prices not visible to customers. And the all-too-deliberate pace of market regulation can't keep up with it, according to Lewis.

It's the latest bonanza in the long Wall Street tradition of making sure its middlemen are well-paid, no matter whether their customers are making money. If technology was supposed to bring buyers and sellers closer, if the SEC hoped to wring frictional expenses out of the act of trading, smart and well-funded operators have still found new ways to profit, Lewis shows.

So far, so good. But Lewis makes a much broader argument: The public should care about this, he insists, because these high-frequency traders are actually "rigging the market" and "front-running" trades at customers' expense in mass frauds against pensioners and other small investors.

He doesn't much distinguish among the people he paints as victims: faceless Middle American retirement savers; powerful investment firms, including Fidelity and Vanguard; hedge funds; retail and institutional brokers; and others who collect fat fees to represent investors. They're the ones at risk of getting trimmed, at fractions of a cent per share, in high-frequency trades.

Investment firms should arguably share responsibility for any systematic trading ripoffs. It's part of their job to understand how markets have changed and adjust their strategies - as investors have had to do ever since the days when messengers and early telegraphs signaled European securities news down the East Coast to brokers and buyers. Trade fast or fade.

Lewis tells big stories about money and power from the points of view of people around the edges. His favorite sources are smart, principled professionals who learned a lot in their youth working for big organizations before starting their own creative enterprises to compete with the dominant powers. The visionary hedge-fund founders in The Big Short, the baseball nerds in Moneyball, and Lewis himself as an almost accidental Wall Street novice way back in Liar's Poker, fit the pattern.

So do his heroes in Flash Boys. He starts with well-connected Mississippi fiber-optics linemen and ethereal humanist Russian programmers, moving on to jaded business-savvy traders hoping to stick it to the Man, the potty-mouthed, bootstrapping Irish cable-splicer turned trading-tech expert Ronan Ryan, all leading up to Lewis' main hero, Brad Katsuyama, a gentle Canadian of ferocious curiosity and high moral standards.

Katsuyama teams with Ryan and a multiethnic platoon of eccentric numbers guys to build a new stock exchange, IEX (they were going to call it Investors Exchange, but run that together into a website address and you'll see why they scrapped it). IEX promises to end "latency arbitrage" and cut out the high-frequency traders by closing stock orders in different markets at the same microsecond.

Lewis is wonderfully alive to the Wall Street class system that exalts sales executives with little understanding of the products or technology they rely on above the hardworking skeptical traders, who, in turn, earn multiples more than hands-on tech guys like Ryan - who gains power and rich rewards by realizing, over time, what his clients don't know.

In 1999, I asked Cristobal Conde, then chief operating officer at SunGard Data Systems in Wayne, which had bought a series of high-tech trading systems in markets around the world, why he didn't offer to connect buyers and sellers directly instead of merely servicing exchanges. "We could," he said - but didn't, because the firm was reluctant to compete with the big Wall Street players who were its customers.

It's that kind of preserve-our-relationships thinking, still common on Wall Street, that Lewis is finally attacking, in the name of our electronic future. He prefers a world where buyers deal directly with sellers through clever systems. It's what Amazon is doing to retail stores, and Tesla is trying to do to car dealers. Is Wall Street next?

JoeD@phillynews.com

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@PhillyJoeD

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