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Attention All Traders and Investors: How Are You Getting Pimped? Here’s How….

Posted by Larry Doyle on January 6, 2012 10:17 AM |

This commentary is a little lengthy, but for those involved in the markets as a trader or an investor I believe it is a great read. Please share it. LD

The other day I received a very interesting comment and question from a regular reader and active trader. This reader’s prompt compelled me to reach out to our Sense on Cents Hall of Fame legends Joe Saluzzi and Sal Arnuk at Themis Trading for a response.

If you are an active trader or an investor, I STRONGLY recommend you read this commentary. If you merely care about our markets and economy, I also STRONGLY recommend you read it.

Is this how capitalism works now? Is this the best America has to offer in terms of free market capitalism? Excuse me while I vomit.

Fred wrote the following in response to my commentary, Did Mary Schapiro Engage in a Fraud?


Forget about Standard Charter vs. FINRA, the ‘Wall Street’ related case going to the Supreme Court should involve losses suffered during the Flash Crash aka ‘unexecuted Bid- Ask orders causing undesirable trade executions’.

I’m not sure exactly how or when order execution on limit orders shifted from being triggered by actual trades to unexecuted bid-ask orders, but it has cost investors and the capital markets $BILLIONS.

Every day ‘mini flash crashes’ continue to occur, but the only time you will hear about it is when the major indexes and big institutional investors are involved. Try to purchase or sell any security with trading volume under 25,000, there is no way you can control the price you get, NONE.

Let’s say you want to buy or sell XYZ security at $10.00 so you put in either a stop order or a buy limit order. The price you get can be determined by unexecuted orders whose only purpose is to trigger trades; maybe a bid of $5.00 with an ask of $15.00. All this can happen while trade prices on the day remain fairly stable between a low of $10.10 and a high of $10.20.

In the case of either of your orders, the stop or the limit, you wouldn’t want execution because the security didn’t trade at or thru the price you were looking for $10.00.

For better or worse your order is filled by a price discovery mechanism that allows most participants no control over execution, NONE.

Would you go into Walmart and buy an appliance without knowing the price? Would you go into a car dealership and trade your car in without knowing the price? How about when your buying or selling a house, wouldn’t you want some control over the price?


Try complaining to someone. Your broker will call down to the floor and get a hard copy of the bid ask prices that triggered the trade, Your broker says “everything looks ok, there’s nothing we can do”. Try complaining to the SEC, you are told by a machine not to try to contact them again. Complain to FINRA, don’t make me laugh (cry), I wouldn’t be suprised if they initiated the changes to order execution to begin with.

LD, I’ll give you credit, you have touched on the issue, but you haven’t provided any ‘color’. A fair and efficient price discovery mechanism in our capital markets is vital.

Maybe if the SEC would provide the necessary regulatory oversite and enforcement re:price discovery, the Fed wouldn’t have to resort to the massive liquidity injections via QE.

  • LD


    GREAT QUESTION!! I am going to call on the two individuals with the best read and biggest set of balls in the industry when it comes to answering questions of this sort and highlighting them for the public.

    To whom do I refer?

    Sense on Cents Hall of Fame legends, Joe Saluzzi and Sal Arnuk of Themis Trading. A link to their site is in my blogroll.

    I will be back.

I’m back and happy to share a fascinating and insightful look behind the curtain at how our now ‘for profit’ equity exchanges work at the expense of active traders and long term investors. I thank Joe Saluzzi and Sal Arnuk of Themis Trading (you can find their blog in my blogroll and I recommend you follow them regularly!!) for the following response:


You are a victim of a market structure that has morphed over the past 15 years from a quote driven market to an order driven market. “Market makers” of today have little to no obligations. The role of a market maker and specialists used to be to commit capital and maintain orderly markets. That role disappeared as new regulations reduced the economics of market making.

The void that was created as the old market makers and specialists were driven out of the market has been replaced by HFT market makers. These are mostly private firms who make markets with the intention of adding to their bottom line.

They have no affirmative or negative obligations and they are not required to commit capital. Their average holding period is 2 seconds… when they execute, which is 5% of the time. The other 95% of the orders you see stuffing the exchanges are cancelled before you can interact with them, and worse, as by the time the slower public quote feed shows their quote, they are already cancelled, kind of like looking at a star in the night sky that has burned out millions of years ago.

A substantial amount of trading that goes on in the markets is high frequency in nature. Much of that is the “market-maker” rebate-arbitrage that goes on in the largest 150-200 liquid names/ETF’s (think BAC, WMT, XLF). Another large chunk of the HFT you see going on is statistical arbitrage.

Certainly though, and Fred sees this, there is much HFT that is predatory in nature. These bandits try to ascertain the strategies of long term investors, whether it’s Fred’s $10 limit order, or a mutual fund’s 800,000-share buy order in a mid-cap stock, being executed through some broker-algo.

These bandit traders use dark pools, odd-lots, rapid flickering and stuffing of quotes, and most importantly, enriched data feeds provided/sold to them by the stock exchanges to keep ascertaining the intentions of the owners of the market, front-run them, and sell it back to them later.

This type of trading does not cost investors a penny or two; it costs them quarters and more. We can’t tell you how many times each day we see thousands of quote changes in a stock that is barely trading, with the intention of igniting some institutional order to start trading up (they know that many institutional buyers try to be a set % of volume for instance).

These HFT bandits flicker quotes, take an offer ahead of your bid, start buying and cancelling orders, attempting the creation of momentum. They see on their data feeds every bid, revision, and cancellation THAT YOU HAVE MADE, and they have modeled when and how you will get frustrated, throw in the towel, and pay up.

Of course, the saddest part of this is that exchanges in past times were more neutral, not for-profit public entities, while today they cater to these bandits because they are their high volume customers.

The hardest hit sector of the stock market is the small to mid-cap space. This space has been “orphaned”. Small to mid sized broker dealers who used to support this space with research and capital have been driven out of the market due to the lack of economics. All that is left is the fleeting “liquidity” of HFT market makers and the amplifying effect of the predatory traders. These predators are constantly on the prowl for real orders that they can take advantage of. They hide in “dark pools” and receive indications of interests from smart order routers. It’s really is a shame that something as simple as buying or selling a stock has turned into a minefield filled with traps.

There are a few things that we would recommend: 1) Never use a market order 2) Ask your broker when you enter an order, how does it get routed? You need to see if your broker is sending your order through a smart router that is sending IOI’s (indications of interest) to other destinations. While this activity may be good for your broker, it will be harmful to your order 3) If you see stock offered at $10, direct your order to the exchange that is displaying the liquidity (some brokers offer this ability but many do not since it raises their cost).

When trading small to mid-caps, you need to minimize information leakage. The minute that a predatory HFT spots your order, you are basically at their mercy.

We know this is not the answer that you want to hear, but until we can get our regulators to fix what they created, then we just have to be extra careful with our order flow.

By the way, head of trading at TRowe Price, Andy Brooks, touches on this subject while being interviewed by the Baltimore Sun, T. Rowe Price Fears High-Frequency Computer Trading,

“The idea is not to own a piece of corporate America. It’s to flood the system with orders that are quickly reversed – or never fulfilled. Like a shill working for an auctioneer, quickly canceled offers to buy or sell create a bogus impression of demand. A study published last fall by researchers at the University of Mississippi found such “quote stuffing” to be “pervasive” among U.S. stock exchanges.

“We know that some high-frequency trading strategies have cancellation rates in the 95 percent range,” Brooks said. “So that means that 95 percent of the time that you say you want to buy 100 shares of IBM, you don’t really buy it. And that begs the question: Why have you said you want to buy? Are you trying to influence someone to do something else? And is that manipulative?”

As usual, the people who are supposed to regulate this stuff are outgunned, outmanned and besieged by lobbyists who claim high-frequency traders add liquidity and choice to the system. Kaufman, an early critic of high-frequency trading, left the Senate in 2010. But the agency is taking its time in ordering a centralized database that would let regulators see what rapid traders are really up to.

Brooks believes the SEC should consider charging fees to traders who cancel unfulfilled orders – an idea that’s even further from realization. T. Rowe Price suggests that regulators experiment with other rule changes to gauge how pointless trading could be reduced without harming liquidity.

Thank you, Joe and Sal.

Capitalism? Strikes me more as an abuse of capitalism, but we see a LOT of that behavior with a healthy dose of unintended consequences these days. Any wonder why volumes across our equity exchanges continue to drop like a rock and broker dealers are laying people off in droves?

If you do trade, I strongly recommend you follow the work of Joe and Sal over at Themis. They deserve massive credit for their work.

Navigate accordingly!!

Comments, questions, constructive criticism encouraged and appreciated. Let’s hear from some of the bandits involved in the HFT activity. What say you??

Larry Doyle

Isn’t it time to subscribe to all my work via e-mail, RSS feed, on Twitter or Facebook?

Do your friends, family, and colleagues a favor and get them to do the same. Thanks!!

I have no affiliation or business interest with any entity referenced in this commentary. The opinions expressed are my own. I am a proponent of real transparency within our markets, our economy, and our political realm so that meaningful investor confidence and investor protection can be achieved.

  • Steve

    Hi Larry

    Enjoyed your piece on HFT’s. I have software designed to detect such systems and frankly, once you know their behavior and when they’re operating, you can put them to your advantage.

    Knowing when they’re operating and at what degree, you can see when they’re buying into lows or selling into highs. You can see when they’re taking out limits and once you know this the price behaviors of many indexes become easier to understand.

    One of the great ironies here is that these systems have relied upon their ability to hide in the tape.

    Well, that’s not so easy for them now and this information can be of great help to traders and investors.

    I’ve been trading for 30 years and frankly I’m finding it easier to trade now with these algos than before without them.

    You can find information about my software at HFT Alert



  • Peter S.

    How is flooding the market with 95% of your orders cancelled so as to create demand for a stock you own not flat out securities fraud. Front running is a securities violation. With no specialist or market makers obligated to ferret out front runners we are left only with regulators to protect the intrest of the unwitting. Stunning.

    • That’s right, it’s outright fraud. But moreover, quote stuffing is designed to slow the tape, not create demand. I’ve seen quotes per second hit 42,000 on a single stock. They do this to 1)slow the tape 2) circumvent routing requirements so they can execute with a spread…and all in the name of providing liquidity. When HFT’s hit, they typically quote 800+ issues at 1000 quotes per second, then they run all the limits within a 20-30 cent range on SPY for example. This then creates a vacuum and price falls right back down into it. But the worst offenders are the news algos.

      • TeakWoodKite

        In the IT world, this is a form of a DOS attack. The ability to electronically jam is not only fraud but it is considered a cyber-crime. No sign of the DOJ or (crickets)

  • Ross

    The Exchanges, by demutualizing and becoming for-profit, share a large percent of the blame for facilitating the predatory practices that exist in securities markets.

    From the flash crash to MF Global, we see the disintegration of the Exchanges and securities markets as public utilities and their transformation in crony capitalist killing fields.

    It’s disgusting and pathetic that these historically great institutions have been so far bastardized from their original intention.

    If we want to see market reform we should return ownership of the Exchanges to the participants, who live and die by their integrity.

  • fred


    Thanks for your prompt follow up. Although the Themis ‘color’ reinforces my concerns, it does not offer a viable solution to the problem.

    To me the solution is obvious and straight forward,


    That’s how fair and honest price discovery has always worked in an auction market acting in the public interest.

    Does HFT increase liquidity? Short term yes, long term no. Long Term, it chases ‘smart, honest capital’ away from listed exchanges as evidenced by the fact that today >85% of exchange listed volume is being generated by HFT computer algorithms. Why is it assumed that increased liquidity ensure better pricing

    The better question for the ‘improved liquidity and pricing argument’ is; does HFT liquidity help or hinder ‘fair and honest’ price discovery?

    The answer is NO! How can it, if an order ‘might’ not be meant for execution. Doesn’t the fact that >95% of bid-asks orders are pulled before execution provide evidence of possible non-executable intent?

    Shouldn’t the SEC and FINRA at least appear to be interested in fair and honest price discovery? Isn’t that the essence and magic of a capital markets based economy?

    The SEC and FINRA are the government regulators with market oversite responsibility. What measures have they taken in response to the issues and concerns raised by the FLASH CRASH.

    LD, isn’t this is just another example of regulatory capture…unbeknown to the public, contrary to public interest, and with total disregard for public opinion, special interests have come to dominate our lives, (to our disadvantage), by influencing government.

    Shouldn’t government be acting as a fiduciary or agent of the public interest? I don’t blame Wall Street for acting selfishly, I blame our government for allowing them to.

    “There should be considered no more grevious a crime as described within our laws than a government official acting for selfish interest, our entire society suffers the consequence”.

    • LD


      Look who was sufficiently interested in this commentary prompted by your comment and chose to post it on his Facebook account and tweeted it as well?

      Mark Cuban Facebook

      Mark Cuban Twitter

      Very cool.

      Thanks again for the prompt!!

  • Chris

    I don’t see the harm in placing limit orders to a book as often as you like. As long as you are at risk of being filled.

    From what I have gathered from the reading, the mechanics of how stops and limits are activated has changed; from a print to the “tape”, to a quote.

    That also begs the question, which side of the quote? That is the underlying fraud, and frankly I believe deliberate by the regulators.

    Therefore, the only order types I might send are marketable limit orders and then either fill or kill or immediate or cxl. At that point all you need is an engine that can emulate the advanced order types and remain opaque to the market.

  • James

    It’s a free market. That doesn’t mean equal access.

    More has always meant faster access to the floor. HFT’s are the new floor traders, they are the market makers. I love the liquidity that they provide. Anytime, I want to put on size, they are there to scoop up every last drop. Why would a legit investor ever complain about additional market participants?

    Find a market with more liquidity, locate levels of inventory imbalances and value, and protect your downside. That’s all I can do. Why would I want to control what other people are doing in the free market? I have no interest in that.

    However, I have not experienced the dramatic negative consequences described above, but if I did, I’d remember the first rule of this game – never ask the market to adapt, always adapt to the market.

    Good luck to all!

    • fred


      Liquidity is like oxygen to the markets, when there is a lack of liquidity, markets will take it upon themselves to create liquidity thru the mechanism of price volitility.

      HFT isn’t the problem, it is a result of the natural evolution of markets in a digital world. The issue is how liquidity should be allowed to be created, bid-ask unexecuted orders or an actual purchase and sale between two parties.

      Just another case of financial engineering gone astray or real and lasting progress?

  • EUS

    Great commentary!!!!!

    The only thing I would change is the title: “Attention All Traders and Investors: How Are You Getting Raped?

    Anyone can be a pimp, he’s just an agent, but a rapist plunders other people for their own satisfaction without a hint of remorse. So sad that we have to deal with this – it’s so wrong on so many levels. What’s next?

    It makes a person wonder if some of the SEC peeps are in the pockets of High Frequency Trading firms – could they really be that stupid with all the commentary out there – fat chance!

    If they are that stupid, I’ll guess that there will be more flash crashes coming our way. Ugh!!

  • chris


    I could not find an announcement where the order types Limit/Stop were now being activated by bid/offer rather than the an executed price. Can you direct me to one?


  • Eddie

    plain and simple for years i was taught it was not only unethical but illegal to intentionally manipulate stock prices.The only intention of HFT is to do just this. Joe and Sal are correct when they say the people that are supposed to regulate this behavior are now in their pocket. For years the NYSE protected the Specialists and the public was assured that orders were being handled properly and the SEC audited the exchange and all of these firms quarterly and then poof all of sudden as the music is slowing down and electronic trading is about to take over the government comes in and declares they heve detected frontrunning. So gone are the evil specialists and in are the noble supercomputers known as HFT. Duncan Niederhauer when he was at Goldman Sachs said he didn’t want 5 guys named Vinny trading his orderflow……well duncan i didn’t like getting scalped by Vinny but I but it does not feel as bad as getting raped by the HFT’S.

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