Thursday, August 27, 2009

High Frequency Programmed Trades - Yes, the markets are set up against investors

This story sounds too good to be true for the owners of the private equity firm milking high volume situations with programmed trades. There's no 'free money', no 'free lunch' and no 'sure thing' - unless the playing field isn't leveled for all players. It's either a 'sophisticated' Madoff scam II, or they are exploiting loop holes on the expense of normal investors and traders. If a normal person would try to do this penny profit within seconds he'd lose money on commission, and would have his account blocked for day trading and lack of appropriate securities for his obvious leverage. Who is watching out to verify they aren't 'false trading' (not a real term for naked shorts/naked trades). That is, buying and selling without ever committing real cash? SEC? HA!

Meet Getco, High-Frequency Trade King
One of the biggest players in the hot area of high-frequency trading is one of the least known.

Getco LLC, a private company with fewer than 250 employees, often accounts for 10% to 20% of the daily trading volume of many U.S. stocks, the company has said, including highly traded names such as General Electric Co., Oracle Corp. and Google Inc.

Since its founding a decade ago, the firm has risen to become one of the five biggest traders measured by volume in stocks and other instruments that trade electronically on exchanges, such as Treasury bonds and currency futures, according to firm executives, who spoke with the Journal this week, and other people in the industry.

"They are probably the biggest market maker in the U.S. stock market," said Justin Schack, a vice president at Rosenblatt Securities Inc. who closely tracks high-frequency trading. A market maker is a firm that always stands ready to buy or sell a stock.

High-frequency trading, in which traders use powerful computers and algorithms to trade at lightning-fast speeds, has grabbed attention after it produced stellar results during the financial crisis and amid estimates that it now accounts for more than half of U.S. daily stock trading.

Critics say high-frequency traders can trade ahead of less fleet-footed investors and squeeze pennies out of their pockets. Defenders say high-frequency shops help markets operate more efficiently by constantly stepping in to trade securities when investors wish to buy and sell. That, in turn, makes trading cheaper for individual investors.

The Securities and Exchange Commission has increased its scrutiny of high-frequency trading, even as exchanges rush to attract the high volumes the trading firms bring. In turn, Getco has increased its contact with the SEC and others as it seeks to influence policy decisions on matters such as rules governing options markets.

Getco's founders, former floor traders in Chicago's futures and options pits, say a lot of confusion surrounds the industry they helped pioneer.

"Electronic markets have been the best-performing parts of the financial markets" in the past few years, said Dan Tierney, a co-founder of the company with Stephen Schuler, in a rare interview. By contrast, many securities and derivatives traded over the counter, such as credit default swaps, malfunctioned amid the credit crisis, with devastating consequences.

Mr. Tierney, a 39-year-old who favors jeans, T-shirts and tennis shoes for work, points to volatile stock markets in late 2008 as a way high-frequency trading helps grease the market's wheels. As investors scrambled to sell stocks, high-frequency outfits such as Getco stepped in to buy.

One day last October, Getco juggled about two billion shares, representing more than 10% of the volume in U.S. equities, according to a person familiar with the firm.

Without high-frequency traders, Mr. Tierney says, the market's losses could have been much steeper. The Dow Jones Industrial Average plunged 14.1% that month.

All this has been profitable for Getco, which earned about $400 million in 2008, trading mostly with its own money, people familiar with its finances say. Getco, which stands for Global Electronic Trading Co., declines to comment on its profit.

In 2007, private-equity firm General Atlantic LLC invested about $300 million, a deal that then valued Getco around $1.5 billion.

At Getco, traders stare at enormous high-definition screens stacked to the ceiling that display trades in virtually every financial instrument traded electronically on exchanges. Large white boards, thick with scribbled formulas and intricate diagrams, line the walls of its expansive trading hub on the second floor of the office tower that houses the Chicago Board of Trade.

Unlike traditional Wall Street firms, the company holds relatively few securities by the time markets close for the day. Nor does it use much leverage, or borrowed money, to amplify the effects of its trades.

Since it constantly buys and sells, it can move in and out of hundreds of millions of dollars' worth of securities every day with a relatively small amount of capital. It favors shares that are the most heavily traded.

Exit question: Is this the Office Space or the Superman III scheme being legally allowed to take place without government interference?

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