HFT 2.0: Wall Street Gyrations Negatively Impacts Main Street

By The Curmudgeon

Because High Frequency Trading (HFT) between computers has replaced the specialist system of making a market in individual securities, the global equity markets are no longer orderly or in any way rationale.  Nor do markets adhere to time tested techniques, like technical analysis, macro or micro fundamentals, sentiment indicators, historical price patterns, time cycles/ seasonality, etc.


As stated in a previous FiendBear article (http://www.fiendbear.com/Curmudgeon5.html), 

Americans don't have a chance “investing" - a term which has become an oxymoron.  They have nothing to base their investment decisions on now, with computer generated RISK ON/ RISK OFF trades dominating the action.  This results in tight correlations of asset classes, which defeats the diversification purpose of asset allocation.


Conventional wisdom suggests that "investors" just buy a variety of index funds.  And suffer through two 50% declines (2000-2002 and 2007-2009)?  Give me a break!

When the computers powered by technical traders take over, these "investors" see their nest eggs shrink by thousands of dollars in minutes for no valid reason! The whole market has become one big "flash crash" waiting to happen!  The up and down moves this week tell the story of computer trading run amok! How long can the majority of "investors" reasonably be expected to endure the fear this extreme volatility has caused? 


It's easy for a trader on Wall Street to shrug off a 5% or 6% loss in a day, because he or she is trading other people's money. It's not as easy for a Baby Boomer hoping to retire in a few years (or already retired) watch the losses mount and assume the market will just go back up eventually. The last 10 years have been flat for the S&P 500, despite all the up and down market gyrations.  Do we have to wait another 10 years?  That will be too late for many boomers in retirement!


This is ultimately a very bad thing for public companies and the U.S. economy as a whole. While Wall Street investment banks have plenty of cash to invest, surely public companies would be better off if Main Street was also eager to invest in stocks. 


Main Street was "scared straight" after the 2008-2009 meltdown, which resulted in $200B net redemptions from US equity mutual funds. And just as fund inflows started to pick up this year, the market has been hit with a very sharp decline - without much, if any change in the fundamentals.  What's worse, there were no technical warning flags (check the volume, breadth, and other technical indicators on July 21- the day before this decline started)!


This sort of volatility will also have spillover effects on the U.S. economy. It's always scary to see the Dow fall by 500 (or more) points repeatedly -- even if it rises the next day. Because you have to wonder: what if it doesn't rise tomorrow, but continues to fall? This sort of erratic stock market behavior is terrible for consumer confidence. Americans worry that their savings aren't safe, so they'll likely cut spending, just in case.


The problem stock market is now more like a stadium in which a big game is being played than a legitimate marketplace where people can  invest in companies they believe will grow market share, sales and earnings.




The Curmudgeon

Curmudgeon is a retired investment professional.  He has been involved in financial markets since 1968 (yes, he cut his teeth on the 1968-1974 bear market), became an SEC Registered Investment Advisor in 1995, and received the Chartered Financial Analyst designation from AIMR (now CFA Institute) in 1996.  He managed hedged equity and alternative (non-correlated) investment accounts for clients from 1992-2005.