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Is the stock market rigged?
The epic food fight between Brad Katsuyama of IEX and Bill O'Brien from BATS Global Markets on CNBC's "Power Lunch" on Tuesday obscured a larger message: the average investor buying, say, 100 shares of IBM through his Ameritrade account in all likelihood will never interact with a high frequency trader. That person's trade will get executed at the best bid and offer, and will pay a commission under $10—far cheaper than he or she would have paid twenty years ago.
The real impact is on institutional traders, who have found it very difficult to execute orders in large sizes.
Welcome to April! Normally, the first day of the month sees a small push of new money being put to work in the market. You'd think that would generally lead to an up month—and for the most part, first days of the month are up.
Not recently, however. For some reason, the S&P 500 has been down the first day of the month for the last four months. The last time that happened was 2011; prior to that, we were up six months in a row.
The big issue for this quarter will be: will they economy pick up? We need U.S. gross domestic product to pick up steam from 1.5 to 2 percent in the first quarter, to 2.5 percent in the second, and over 3 percent in the second half.
The big debate on trading desks for Q2 will be growth versus value. The popular trade going into Q1 was to be long growth and short non-growth.
It's time for a public hearing about what's going on with our stock market.
I've said Michael Lewis' claim that the stock market is "rigged" is a gross exaggeration, but we can thank him for one thing: the megaphone he has with "60 Minutes" has helped revive a sleepy debate on what is right—and wrong—with our market structure.
And now, it is time to strike while the iron is hot: It's time for the U.S. Securities and Exchange Commission to convene a series of public hearings on the stock market.
Bring in exchange heads, asset managers, regulatory experts, academics.
Let's examine all the new market data that the SEC has been generating recently about trading volumes, and about high frequency traders.
Let's get some consensus of what has gone right, and what has gone wrong.
Most importantly of all: Let's open up Reg NMS, the rule that came into effect in 2007 and helped "cement" much of the current market structure.
Michael Lewis gave an interview to "60 Minutes" ahead of the publication of his book, "Flash Boys."
He alleges that the stock market is "rigged" by a cabal of high frequency traders, stock exchanges, and Wall Street firms.
He alleges that a lone fellow, a trader named Brad Katsuyama, figured this out and formed a new exchange, IEX, to combat abuses perpetrated against the investing community.
He alleges that high frequency traders are able to front run orders, which means they are able to buy in front of you and sell them back to you when you want to buy.
The problem, he says, is in the plumbing of the stock market. In the most interesting part of the interview, they showed a moving diagram of an order that leaves downtown New York and goes to the BATS exchange servers in Weehawken, N.J. Because the exchanges all connect to each other, the order then goes to the servers of the New York Stock Exchange, which is a few miles away in Mahwah, N.J.
Michael Lewis' new book, "Flash Boys", has generated significant interest in the trading community. It's about high-speed trading. I haven't read Mr. Lewis' book (it's not out until Tuesday), but I have done something almost no one else has done: I've read the S-1 for Virtu, which is a high-speed trading firm that is slated to go public, likely in the next few weeks.
The S-1 is over 200 single-spaced pages, but it is an interesting window into the world of high-speed trading.
It has generated a lot of publicity because of this claim: "As a result of our successful real-time risk management strategy, we have had only one losing trading days ince January 1, 2008."
Only one losing day since 2008? How can that be? It's impossible, isn't it?
We saw something fairly unusual for an IPO this morning: A trading halt.
Energous (WATT), which develops wire-free charging technology, priced four million shares at $6, then opened at $9.50 around 10:25 a.m. ET. It went to $10.79 at 10:29 a.m. ET, then was halted at 10:31 a.m. ET at $9.02, because it tripped a circuit breaker that says if a stock moves more than 10 percent in five minutes, it's halted for five minutes.
I am a big supporter of circuit breakers, which were initiated after the Flash Crash in 2010. But in the case of an IPO, many market watchers, including Eric Scott Hunsader at Nanex, believe that it may be better to be a little more liberal with them. Perhaps double the trading bands to a 20 percent move in five minutes before a trading halt is called.
It's been a mixed picture with IPOs today…while all six got priced, the first-day price pops are not materializing, with only one (Energous) a clear winner, up 50 percent. Two of the five that are open for trade are down from their initial price.
Opening ABOVE the initial price:
Opening AT the initial price:
Opening BELOW the initial price:
Still waiting for Bluerock Residential Growth REIT (BRG) priced at $14.50, to open at the NASDAQ.
After a rough week, six initial public offerings (IPOs) priced at sensible levels. One priced below the range, a couple at the high end, a couple in the middle. Yesterday's double-digit rally in three offerings have greatly reduced the anxiety that was created when King Digital IPO fizzled on Wednesday.
On the Big Board:
1) Aerohive Networks, a cloud-based mobile network platform for businesses, priced 7.5 million shares at $10, in the middle of the $9 to $11 range;
3) Online health-related content provider Everyday Health priced 7.1 million shares at $14, in the middle of the $13 to $15 range.
Divergent market trends: Weakness in small- and mid-caps and "new tech," and strength in emerging markets.
Market weakness is now evident in several key sectors. While the S&P 500 is down fractionally as we approach the end of the month, we are seeing notable weakness in other sectors:
What's up with those names? As Bill Miller pointed out on our air today, when growth is in short supply, traders will pay up for any stocks that have growth. But if there is a perceptionthat growth is picking up, then traders will try to rotate out of those high-priced growth names.
Remember the big trade at the start of the year: Short emerging markets, go long "new" tech.
That trend has now reversed: The main emerging markets ETF (EEM) is not up six days in a row and has broken out to the highest level since the beginning of the year.
The criticism of EEM is it is weighted toward a small basket of countries like China and Brazil that are largely dependent on commodities. It's true China and Brazil have been rallying strongly in the last six days, China on hopes of additional stimulus: China (FXI) +6%, Brazil (EWZ) +8%.
But other emerging market countries in the past six days have also been strong:
These countries are not so dependent on commodities. Mexico has had a strong move off the bottom, as has Chile.
Elsewhere: What's up with the close? It's the most widely discussed topic among active traders: The weak close. Many days in March we have started strong, but weakened mid-morning, often after 10 a.m. ET.
Traders have been grousing about this for a couple weeks, but this morning Paul Hickey at Bespoke finally put a little more flesh on the bones.
His recommendation: Buy low and sell high by buying the close and selling the open. "Buying the close every night and selling at the open the next morning led to an outperformance of 2.25% versus buying the close and selling at the close each day," Paul wrote.
But you can do even better if you sold at 10 a.m. ET, producing returns of 4.98 percent higher than buy and hold.
Paul is smart enough to know that this pattern does not last forever. It works until it doesn't work.
Why is it happening? Maybe it's people in Europe selling out of the U.S. and buying emerging markets. Maybe a lot of people just stop trading in the middle of the day.
The wave of initial public offerings continue to be mixed. After yesterday's disappointment with King Digital Entertainment, the IPO market is on pins and needles, watching new offerings very carefully.
With that said, three IPOs priced overnight. The early word: one priced below, one in the middle, and the other above.
Hedge funds have seen the worst start to the year since the financial crisis, as returns in January and March were both in the red.
The Fed indicated to Citi that it would get more time to fix "stress test" planning problems before rejecting its capital plan.
Goldman Sachs reported quarterly earnings and revenue that topped analysts' expectations on Thursday.