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box" trading on the Big Board...is it legal... is it moral?
New York, NY – Is "black box"
trading legal? Is it moral?
In order to answer both
questions, we must re-examine what the function of the stock market is and
what money really is.
First, the major function of a
stock market is to raise capital for start-up or existing businesses and to
trade the securities, buy and sell the ownership papers, of companies
and commodities. How this is done ranges from the very simple to the very
complex including going long, short, buying on margin, futures, options and
whatever methods you can think of. Many investors are trying to earn money
through dividends or simply the difference between the buy and sell prices
of their ownership papers, i.e. stocks, bonds, commodities. Note
that all ownership papers should be backed by physical collateral and/or
future anticipated collateral. These are contracts or promissory notes. If
the collateral is hot air, you should be careful.
Since we’re getting close to
talking about the definition of money, we should clarify that stock market
forms of tradable ownership papers should be distinguished from a nation’s
proper form of money, which should be a measurable and easily divisible form
of a hard commodity, such as gold. Paper money is not true money per se but
represents a paper receipt, an I.O.U. or redeemable promissory note (which
is a contract) for the hard money usually stored in a bank or a nation’s
treasury. Each piece of paper money must have hard money as collateral or
it is simply a counterfeit or fiat piece of paper (fiat money means forced
money). Real bills of credit, as discussed by Nelson Hultberg and our
forefathers, Adam Smith and John Locke, can serve as temporary forms of
paper money (promissory notes) if, and only if, the contractual obligations
are ultimately fulfilled by both parties. (Theoretically, one could issue
verbal “monetary” contracts as long as the verbal promises are fulfilled but
this is not a good basis upon which to establish a nation’s money supply any
more than fiat paper currency. Today’s Federal Reserve Notes are examples
of fiat currency backed by nothing but hot air.)
Now that we’ve defined what a
stock market is, what tradable securities are, and, in general, what real and
fake money are, let’s tap dance back to the scene of the crime: “black box”
or “algorithmic” trading on the stock market. Is it legal? Is it moral?
Since the WSJ ran a big article
on Dec 15, 2006 about the ins and outs of how companies – including its
parent company, Dow Jones -- are obtaining a huge edge and making big
profits through “black box” computer trading, and have done so since the
year 2000, it apparently is not considered illegal in the eyes of the
Securities and Exchange Commission (SEC). The SEC’s and various brokerage
houses’ only complaint is that “black box” computer programs tend to clog up
the computer’s guts by issuing so many simultaneous buys and sells of the
same stock that trading is, relatively speaking, slowing down the non “black
In the same WSJ edition, an
article entitled “Street Chiefs in for Big Paydays” illustrates why nobody
on Wall Street is complaining. “Record profits at Wall Street’s big
brokerage firms are expected to translate into record bonuses for Wall
Street’s chief executives, with some expected to top the $50 million mark
for the first time,” reports the WSJ. One notes that the names of the “Big
Payday” companies and firms who gain from “black box” trading are,
whoop-tee-doo no surprise here, one and the same. Nobody on Wall Street is
complaining about “black box” trading because they’re getting rich from it.
Before we jump on the “is it
legal” and “is it moral” bandwagon, let’s review something called
Arbitrage is defined as
the simultaneous buying and selling of the same securities to take advantage
of price differences in different markets or at different points in time.
In days of old before computers, arbitrageur Wiley E. Coyote would
buy low in one market, say London, while simultaneously selling the same
securities high in another market, say New York, because he got the buy-sell
news faster than everybody else or knew inside info about the company or
stock. While many forms of arbitrage are legal today, insider
trading is not legal and “algorithmic arbitrage” can be looked upon as a
special method of insider trading because the computer algorithm only buys
and sells the same security when it detects a price differential.
Otherwise, the program’s algorithm doesn’t commit to arbitrage. You
Therefore, “black box” or
“algorithmic arbitrage” trading is the ultimate form of insider trading and
should be considered a white-collar crime since its only function is to mis-use
the buy-sell methodology, high speed computer algorithms, to gain the
ultimate insider information in the market to make money outside the
original function of the stock market. -- FM Duck
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