This Chart Shows How You Get Screwed in the Stock Market

On a day like this, when markets stumble, maybe you have other things to worry about than how algos screw you out of more or less small amounts of money every time you trade, or every time your mutual fund trades, and how this money adds up over time, like one of the endless fees that you pay directly or indirectly as you try to ride the stock market into the sky.

But you no longer know if any of the quotes you see still exist when you see them.

They’ve been debated for years, even in Congress: the real or perceived evils of High Frequency Trading. There are many defenders of the practice, particularly among those that benefit from it. And there has been some give and take…. To where Eric Scott Hunsader, founder of Nanex, tweeted: “Every positive suggestion made by #HFT lobbyists has come after being backed into a corner where lies no longer worked.”

He also offered a chart that would make you want to hang on to your wallet.

Turns out, 14% of all orders for large ETF are cancelled within 1 millisecond (ms); about 27% are canceled within 10 ms, and 65% of all orders for those large ETFs are cancelled before 1 second has elapsed.

Large stocks follow a similar trajectory: 16% are canceled within 1 ms, 27% within 10 ms, and 56% are cancelled within 1 second. Midsize ETFs are close behind. In short, the majority of all orders are canceled within 1 second. This chart shows how long these orders live in the system:

Why does that matter? Because by the time you see quotes and make your decision and send your own buy or sell order, the data that you based your decision on doesn’t exist anymore. It was an ephemeral figment of an algo’s inner workings. It’s not just you. The mutual fund you own has the same problem. Nanex, which tracks this sort of thing, describes it this way:

It is very common to find examples of stock quotes changing rapidly – hundreds and sometimes thousands of times per second in a single stock. At the extreme, we’ve seen in excess of 25,000 quote changes in a single stock in one second of time or less…. Often there are no trades during these events. Sometimes a simple pattern evolves from the quote price changes, such as in the case of a certain High Frequency Trading (HFT) algorithm that we’ve recently seen run every day in Google stock.

The algo starts with an order to buy 100 shares at $581.87. This is replaced, sometimes only milliseconds later, with an order to buy 100 shares at $581.88 (1 penny higher). Over the course of 1.5 seconds, this process repeats another 253 times, ending with an order to buy at $584.41. Within less than a second, the $584.41 order is canceled and replaced with an order several dollars lower, and the cycle repeats.

And actual market pricing? Forget it. It’s you against the machines. It’s your mutual fund and pension fund against the machines. And you lose every time. But on a day like today, when deep red oscillated across the screens, you might have bigger problems to worry about.

The high-yield party turns into a bloodbath. Happening right now beneath the surface of the S&P 500. Read… Junk Bond Bubble Cracks, Destroys Stocks One at a Time

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  8 comments for “This Chart Shows How You Get Screwed in the Stock Market

  1. Duderino says:

    Wolf, I thought you are a libertarian.

    Yeah, high frequency trading benefits some at the cost of some amateur investors. So what? The market is a game, everybody is trying to reap profits. The real evil in the economy is the Fed and the congress itself. HFT is just the means to the end-the profit. And profit motive is the reason the market exists.

    • Wolf Richter says:

      Sure, for some people, the stock market is a game.

      But for the economy, the stock market is an essential market place and serves for price discovery. These prices form the foundation of many activities, such as funding companies and providing for retirement. So it’s important that the price discovery works. If it’s rigged, whether by the Fed or by other “players” (particularly big ones), that whole function of price discovery gets distorted, and you end up with a lot of craziness that can do a lot of damage.

      My job is to give WS readers something to think about. I have no problem with players looking at the market as a game. But people need to know what they’re up against.

      • Dead at 18, buried at 65 says:

        I commend you for your apt and insightful answer to Duderino.

        The name of this type of trade or price spoofing is, “Naked Shorting”. Illegal, but never prosecuted, especially when HFT trading companies are caught!

        We all should be familiar with JP Morgan’s 6 months trading without any losses! Not once, but even twice last year!

        The government drives the overpriced stock markets up; the news media proclaims, “All is well. Buy more stocks”! The real economy investors and traders are seduced into partaking in the “eternal high” of never ending growth, more rewards and better returns; And, some of them see their wealth get collected and vaporised by HFT trading computers.

        That is why the Sheeple must get financially educated. What is that infamously known and well worn saying again? Is it not, “The stock market is for “Suckers”?

        Unfortunately for us, our pensions and other financial assets are traded daily in these government 40 – 80% controlled, hear; see; and speak-no-evil, markets. Where the government gives the increase, and allows its subordinates to “pick the profits”. -It’s a mug’s game.

        Your are also perfectly right in pointing out this issue for one other important thing: When trading volume falls, or does not exist at all, these HFT trading machines take up the slack and “Naked Short” each other until some real traders (suckers) come in. Its all about skimming the cream on the top.

        If anyone doubts my claims, just have a look at the metals markets: It does not matter if it is copper or aluminium, steel or some other base metal. What do you see? You see Sine Wave trading. You can actually see where the HFT machine demonstrates that there are no real traders present, so the HFT machine, when looking for traders or price discovery and finds none, then goes up and down, as a sine wave, looking for bidders.

        The same happens in currencies, bullion and the stock market. It is everywhere. The government is the market!

        I have listened to many-an-experienced-trader complain how they or their company is leaving the markets because the normal dynamics of capitalism and price discovery, no longer exist: – Things such as prices reflecting supply and demand.

        You all should ask yourself, why are companies now openly buying their stocks back? Or even changing their Public status to Private companies again?

        • dc.sunsets says:

          Worse, still is that poorly-run firms can borrow endlessly and keep their doors open, forcing better-run firms into dire straights too.

          When uncompetitive firms don’t fail, it weakens the entire sector. This is just one more dirty little secret of the Fed’s mispricing of risk and reward.

      • John says:

        “I have no problem with players looking at the market as a game. ”

        And everyone needs to know it is a game – so that everyone is on the same page. Everyone needs to play by the same rules.

        The way it is set up now, the working man is being fleeced.

    • dc.sunsets says:

      Duderino, if you walk into a retailer and he promises to give you a price according to certain stipulations, but then doesn’t follow through, that’s called fraud. As you know, libertarians consider fraud on the “initiated force” continuum.

      The truth is that today’s markets are dishonest casinos. I concur with your inference, that if someone doesn’t want to gamble in a dishonest casino, simply don’t walk in the door. The problem is that unless one wishes to live in a cave, the consequences of this dishonesty are so wide-reaching that everyone is essentially compelled to “play,” like being forced at gunpoint to sit at a poker game where you already know you’re the patsy.

      It’s like having to buy food at the Company Store, where “some animals are more equal than others.”

  2. retired says:

    The whole deal is a huge swindle involving the Wall Street hustlers working with the Central Bank (the FED.)which in turn is anchored to the founders of Reserve Banking,The City of London!
    Imagine a club that was founded centuries back,an exclusive club with a limited membership.This membership is open only to bankers & financial types.Now suppose that all of Humanity was playing in a never ending poker game.In this card game everyone was equal with the same chance of winning except for one major difference in the game.Almost all of the players,those not in the financial sector,were dealt their cards from a standard 52 card deck.The financial types were dealt their cards from a pinochle deck.
    I am curious to know,how can someone with cards from an ordinary poker deck compete with a speculator who gets his cards from a pinochle deck? A pinochle deck completely consisting of all cards 9 & above up to & including aces & with jokers?He can’t.
    This would be similar to an outsider betting against a financial insider who has special deals(cards).

    • Dead at 18, buried at 65 says:

      Hello Retired,
      For your entertainment, I would like to contend with you for a while. You are asking us, “how can we win against so mighty an opponent?” I would contend with you that we should not fight or compete: What exactly do I mean?
      Well, for example: An ant has seen what damage a bull and a bear can do to his colonies and hive. He knows that he is too small and weak to fight them. Then what should he do? Well, I will tell you that he should make them his friends!

      Look! He knows that bears just as himself love honey, so he uses the bear and climbs on his back knowing that the bear will take him to the honey.

      He knows that bulls just as himself love grass, so he uses the bull and climbs on his back knowing that the bull will take him to where there is plenty of grass.

      You argue that we have been dealt with a separate deck of cards. I contend that you do not play against them, because we all know that you will never win. I am suggesting that instead of playing against them, you quietly sit behind the “Winners” and see what cards they have been dealt. Then, when you have gained insight to what cards they have, you can then play “your own game”, knowing what direction the game is going. In other words, instead of playing the poker game with them, you should go and take bets on the outside on who is going to win the game! ;)

      Let me give you a better example: – We more or less know what direction Mario Draaghi, Shinzo Abe and Janet Yelling are going to take with their financial policies.

      Ok. We can short the Yen, the Euro and pretty much any other western currency – avoiding the dollar – for the moment, of course; We know what direction the stock markets of the western world are going to go. We go long stocks – but only temporarily, watching carefully for indicators that the markets growth will soon come to an end; We know our governments are going to take us to war. Go long on petrol prices and sit and wait. We know that droughts are appearing in California and Brazil – affecting certain agricultural Produce. We go long grains and oranges.

      I am not giving financial advice here, but I am only pointing out what strategies we can take if we know with reliable certainty what direction our Keynesian governments and corrupt proxies are going to take.

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