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April 4, 2014

Financial Markets and Technology's Role

Posted by Soundararajan S (View Profile | View All Posts) at 6:34 AM


60 Minutes - IS THE US STOCK MARKET RIGGED? [Source: http://www.youtube.com/watch?v=sK0aoQ5yVmA]

One of the sweeping promises of the Information Age has been about how a potent mix of technology and communications liberates societies.

But when an expert sheds light on fascinating developments in the global financial markets, it's a good time to consider whether the world's enterprises and consumers are sufficiently prepared for a little known "un-leveling" of this Information Age. I've enjoyed all the books from the financial journalist Michael Lewis, and his latest, Flash Boys: A Wall Street Revolt, is no less interesting. Lewis is stirring the waters by claiming that financial technology has allowed the market's big players essentially to rig the system.

That's a very provocative statement. Lewis bases this on the principle of "latency" in the world of financial sales and trading. Up until recently, the global financial markets operated in a style similar to those of merchants across the ancient world. Stock traders would show up to the exchange and buy and sell securities based on the orders from their clients. Today, there's been a major, technological transformation in the way stocks are traded - and it happened without many investors taking notice. The huge global banks now rely on latency - essentially being physically closest to a market-making center in order to get the best price for a security. The banks found that if they 1.) utilize state-of-the-art supercomputers that are 2.) situated within a few miles of the headquarters of an exchange, those micro-second advantages added up fast. That's because banks buy and sell in blocks of millions and millions of shares. Every microsecond that a trade travels along a mile of fiber optic cable counts in a big way.

Now suppose you're one of the many consumers who uses a home computer or telephone from which to order a few shares here and there for your portfolio. Lewis demonstrates that because of your relatively paltry and sluggish technology, the big players are going to beat you to the optimal process each and every time. I think why Lewis's new book is resonating with so many people is that it shows why consumers need to be vigilant.

The author provides us with the story of a trading executive at a prominent Canadian bank who discovered that mom-n-pop investors had really been edged out of the market without knowing it. So his bank began educating their consumers and even the clients of their rivals on how latency has fundamentally changed the global capital markets.

In the march of technological progress, we've seen both sides to the Information Age. On one, we see how leveraging the finest technology puts well-heeled players in the driver's seat. But we're also seeing parts of those same organizations rally around their customers in an effort to give them access to that same kind of technology. The promise of the Information Age, therefore, is still being delivered. Can you think of any other era in history during which the individual consumer could find out about and begin to access the sophisticated trappings of a well-connected elite in such a way? Probably not - which is why technology in the financial services arena is finding a way to "re-level."

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