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Mega-Banks Get to Be Infallible, But We Don't

By Brenda P. Wenning

NEW YORK (AdviceIQ) -- Imagine being able to trade stocks and knowing you will make a profit every day. Of course, for the average investor, this is impossible, but mega-banks aren't average investors. They do it with super-fast computers -- and no scruples.

According to Jim Quinn of The Burning Platform investing site, "JPMorgan experienced ZERO trading loss days in 2013. Goldman Sachs, Morgan Stanley and most of the mega-banks have had virtually perfect daily trading results since 2010. If they are all winning, who is losing?"

Banks such as JPMorgan, Goldman Sachs and Morgan Stanley can, of course, attract the best and brightest traders, so you would expect above-average results from them. But how does anyone manage to make it through an entire year without a single day in which trading losses take place?

Through legal theft, also known as high-frequency trading. As we've reported, Michael Lewis' new book Flash Boys shines a light on this dark side of Wall Street, pointing out that HFT enables Wall Street's biggest players to buy shares at one price then sell them to investors at a higher price in a practice known as front running.

Granted, for a bank the size of JPMorgan, which has $2.48 trillion in assets, HFT accounts for a relatively small part of its business. But is it fair for a bank that earned $5.27 billion in profits during the latest quarter to have access to trading information that gives it an advantage over the rest of us? And should the rest of us be paying for it?

These big banks aren't the only ones taking advantage of HFT. As Lewis wrote, "In early 2013, one of the largest high-frequency traders, Virtu Financial, publicly boasted that in five and a half years of trading it had experienced just one day when it hadn't made money, and that the loss was caused by 'human error.' In 2008, Dave Cummings, the CEO of a high-frequency trading firm called Tradebot, told university students that his firm had gone four years without a single day of trading losses. This sort of performance is possible only if you have a huge informational advantage."

Then there's BATS Global Markets, an alternative stock exchange founded in 2005. Quinn says it "was founded by high-frequency traders and designed to foster the predatory schemes of high-frequency trading firms who paid the exchange for the privilege of swindling investors."

BATS President George O'Brien had a now-famous debate on CNBC with Brad Katsuyama, co-founder of The Investors Exchange and the central character in Flash Boys, who has exposed HFT practices. Lewis told Wired:

The substantial shocker from this encounter is that Katsuyama tried to get O'Brien to admit that the BATS Exchange uses one very slow data feed to give investors the prices in the market, while selling, for vast sums of money, a faster feed to high-frequency traders, the effect being that the high-frequency trader knows the prices in the exchange before your order. So he has the privilege of trading against you at an old price if he wants to. And O'Brien says no that's not true. He lied, on national television, about a central fact about his business.

Under pressure from the New York attorney general's office, O'Brien corrected statements made in his interview and admitted that the BATS Direct Edge exchanges use high-speed data feeds to price stock trades, while two other exchanges, EDGA and EGX, use a slower feed, known as the Securities Information Processor.

One speed for them, another for the rest of us.

-- Brenda P. Wenning is president of Wenning Investments in Newtown, Pa.

AdviceIQ is a network of financial advisers that writes insightful articles for the public about investing and wealth management. All articles are edited by AdviceIQ's editor in chief, Larry Light. AdviceIQ certifies that all its advisers have no regulatory infractions.

Follow AdviceIQ on Twitter at @adviceiq.

AdviceIQ is a network of financial advisors that writes insightful articles for the public about investing and wealth management. All articles are edited by AdviceIQ's editor in chief, Larry Light. AdviceIQ certifies that all its advisors have no regulatory infractions.

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