My last two posts were designed to stimulate discussion. But
let's talk about the real problem that regulators, public
companies, investor/shareholders and traders face. The problem
is that Wall Street doesn't know what business it is in.
Regulators don't know what the business of Wall Street is.
Investor/shareholders don't know what business Wall Street is
The only people who know what business Wall Street is in are
the traders. They know what business Wall Street is in better
than everyone else. To traders, whether day traders or high
frequency or somewhere in between, Wall Street has nothing to
do with creating capital for businesses, its original goal.
Wall Street is a platform. It's a platform to be exploited by
every technological and intellectual means possible.
The best analogy for traders? They are hackers
. Just as hackers search for and exploit operating system and
application shortcomings, traders do the same thing. A hacker
wants to jump in front of your shopping cart and grab your
credit card and then sell it. A high frequency trader wants to
jump in front of your trade and then sell that stock to you. A
hacker will tell you that they are serving a purpose by
identifying the weak links in your system. A trader will tell
you they deserve the pennies they are making on the trade
because they provide liquidity to the market.
I recognize that one is illegal, the other is not. That
isn't the important issue.
The important issue is recognizing that Wall Street is no
longer what it was designed to be. Wall Street was designed to
be a market to which companies provide securities
(stocks/bonds), from which they received capital that would
help them start/grow/sell businesses. Investors made their
money by recognizing value where others did not, or by simply
committing to a company and growing with it as a shareholder,
receiving dividends or appreciation in their holdings. What
percentage of the market is driven by investors these days
I started actively trading stocks in 1992.
I traded a lot. Over the years I've written
quite a bit about the market
. I have always thought I had a good handle on the market.
...Over just the past 3 years, the market has changed. It is
getting increasingly difficult to just invest in companies you
believe in. Discussion in the market place is not about the
performance of specific companies and their returns. Discussion
is about macro issues that impact all stocks. And those macro
issues impact automated trading decisions, which impact any and
every stock that is part of any and every index or ETF. Combine
that with the leverage of derivatives tracking companies,
indexes and other packages or the leveraged ETFs, and
individual stocks become pawns in a much bigger game than I
feel increasingly less comfortable playing. It is a game
fraught with ever increasing risk.
The PIMCO guys (who I think are the smartest guys on the
Street), talk about a new normal as it applies to today's state
of the world economy. I think just as important is the new
normal as it applies to Wall Street. Wall Street is now a huge
mathematical game of chess where individual companies are just
pawns. This is money in the bank for the big players like
), Morgan (
), etc. Why ? Because the game of chess is far too complicated
for 99pct of the institutions out there investing money.
So to keep up, they turn to Goldman, Morgan and the like to
invent products for them. "You don't know how to play the
housing boom, let us show you." "You think the housing boom is
about to crash, let us show you how to play that." "You think
that PIIGS are in trouble because they can't print money to pay
debt holders, let us create a product to allow you to play that
game." The big houses have the best hackers in the business and
they put together the games and sell them to the many, many
institutions managing Billions and Billions of dollars. They
are the ultimate Hackers selling their attacks to the highest
bidder, regardless of which side they are on. That is a new
Again, I'm not passing judgement one [way] or the other. I'm
just recognizing what is going on in the financial world
It's rare for companies to go public these days. Just as
rare for secondary offerings. The only thing that keeps me in
the market is that most of the stocks (not all) pay dividends
or some other sort of cash payout. For the first time in my
life, I bought outside the United States. I bought Australia in
a big way because it is becoming increasingly hard to find new
domestic investments that are not influenced by the "hackers"
and the games being played on a macro level.
It's hard to believe, but evaluating countries as an
investment is now easier than evaluating companies
. Even with all the unrest in Europe. Or maybe because of
So back to the original question. What business is Wall
Street in ?
Its primary business is no longer creating capital for
business. Creating capital for business has to be less than
1pct of the volume on Wall Street in any given period. (I would
be curious if anyone out there knows what percentage of
transactions actually return money to a company for any
reason). It wouldn't shock me that even in this environment
that more money flows from companies to the market in the form
of buybacks (
which I think are always a mistake)
, then flows into companies in the form of equity.
My 2 cents is that it is important for this country to
push Wall Street back to the business of creating capital for
business. Whether it's through a use of taxes on trades, or
changing the capital gains tax structure so that there is no
capital gains tax on any shares of stock (private or public
company) held for 5 years or more, and no tax on dividends paid
to shareholders who have held stock in the company for more
than 5 years
. However we need to do it, we need to get the smart money on
Wall Street back to thinking about ways to use their capital to
help start and grow companies. That is what will create jobs.
That is where we will find the next big thing that will
accelerate the world economy. It won't come from traders trying
to hack the financial system for a few pennies per trade.
And solutions won't come from bureaucrats trying to
prevent the traders from hacking the system.
The only certainty when bureaucrats step in is that
the law of unintended consequences will smack us all in the
head and the trader/hackers will find new ways to exploit the
system that makes them big money and even more money for the
big institutions that develop products for the other
institutions that are desperate to play the game.
Regulators have got to start to recognize that traders are
not investors and vice versa and treat them differently.
Different regulations. Different tax structure. Different
oversight. Individual investors and the funds that just invest
in stocks and bonds are not going to crash the market. Big
traders who are always leveraging up and maximizing the number
of trades/hacks they make will always put the system at risk.
We need to recognize that they do not serve much of a purpose
other than to add substantial risk to the global economy. That
their stated value-add of liquidity does not compensate the US
and World Economy nearly enough for the risk of collapse they
introduce into the system.
Wall Street as a whole needs to be in the business of
creating capital for companies and selling shares to
investors who believe they are shareholders. The Government
needs to create incentives for this business and extract
compensation from the traders/hackers for the systemic
failure level of risk they introduce.
There will be another crash, because there are too
many players looking for the trillion dollar score. They
can't all win, yet how many do you think wouldn't risk
everything, even what is not theirs, for that remote chance
to score big? Put another way,
there is zero moral hazard attached to any trade. So why
wouldn't traders take the biggest risk possible ?
One more consideration. If there are traders of any
kind that are unregulated or unmonitored, and trade for
their own account, how do we know how big they are and how
much of a threat they pose to the system, individually and
in aggregate? For any High Frequency or big leverage
derivative folks out there--is it possible there could be
firms that have billions at risk with questionable ability
to make a margin call or fulfill their side of the trade if
things went against them? Could there be hidden [[AIG]]s
that few people know about or a bunch of AIG like
situations, which in aggregate fail and put the system at
risk? I have no idea. Just asking the question.