High-Speed Trading Defines A New Era
If you asked a medieval farmer if he had an hour to spare, he would have asked you, "What's an hour?" If you asked a renaissance shipwright if he had a second to spare, he would have asked you, "What's a second?" If you asked a factory worker at the turn of the 20th century if she had a millisecond to spare, she would have asked: "What can you do in a millisecond?" But ask a 21st century Wall Street trader if they have a millisecond and they'd know exactly what you mean. More importantly, if he or she were a high-frequency trader, they'd also know exactly what a millisecond cost.
There's a new kind of time being created in the world of high-frequency trading and it has been making a new, and perhaps dangerous, kind of money. There's a moral to the story of high-frequency trading. But it may not be one the one you were expecting.
Over the last few weeks the financial world has been set ablaze with the publication of Michael Lewis's new book Flash Boys: A Wall Street Revolt. Lewis, who has already written about Wall Street in Liar's Poker, is not kind to the practice or practitioners of high-frequency trading. Many before have argued that there is an inherent instability in trading running at the rate of milliseconds, or 1/1000 of a second (it takes about 400 milliseconds for you to blink your eye). Since the Flash Crash of 2010, when the market lost and then quickly regained 9 percent of its total value, high-frequency trading (and the algorithms on which they depend) has been a topic of robust discussion.
That however is not Michael Lewis's focus. Instead, Lewis argues, high frequency trading has allowed the entire system to be gamed. Given the "high frequency" in high-frequency trading, the time-delay determined by lengths of wire between networked computers has become the all-important factor. That is why a group paid $300 million to create a straight-line fiber optic link between Chicago and New York, allowing them to reduce the signal travel time from 17 milliseconds to 13 milliseconds. That 4 millisecond trading advantage allowed the group to charge clients $14 million a year to use their new electronic pipeline.
By exploiting the time it takes for a signal to travel down a wire, high-frequency traders were able to peer into the actions of their competitors before the system acted on those actions. In response, traditional traders spoke of feeling like the market was running away from them. As The Economist puts it:
"Perhaps the best analogy is with the people who offer you tasty tidbits as you enter the supermarket to entice you to buy; but in this case, as soon as you show appreciation for the goods, they race through the aisles to mark the price up before you can get your trolley to the chosen counter."
Now there are many morals that can be drawn from Flash Boys — morals that the authorities have begun to take note of, as Joe Nocera of The NY Times reports:
"The F.B.I., the Justice Department and New York's attorney general, Eric Schneiderman, are now investigating high-frequency trading. The Securities and Exchange Commission, whose regulations unwittingly helped create the problem, is also said to be investigating."
I too want to draw my own moral from the story but it's not one that will catch the attention of any lawyers. For me the real story of Flash Boys is not about the trading but about the high frequencies.
In other words, it's about time.
I spent a few years considering the relationship between science, technology and the human experience of time when I was writing my last book About Time, Cosmology and Culture in the Twilight of the Big Bang. I found that every culture in every epoch of history has its own time logic — its own way of organizing activities through the day. Most importantly those time logics are always mediated by the culture's technology. If you don't have cheap clocks you can't separate the day into 24 abstract units called hours. If your clocks don't have reliable minute hands, then you can't demand that your workers show up at 8:15 a.m.
With each important advance in technology we've gained the capacity to not only measure new domains of time but to exploit them as well. That is why the increasing speed of industrial production in the 19th century meant that the minute was bound to become a unit of economic return.
People often asked me about the future of time as I traveled the country during my book tour. What, in other words, was going to be the next frontier in technology, time and culture? What kind of time were we creating now?
I think Michael Lewis has a better answer to that question than I do.
The technologies of fiber-optic cable and networked computers have made the millisecond "real." They've made them a unit of economic concern and a building block of human culture. Even though no one experiences milliseconds directly, fortunes now hinge on their sensible manipulation and exploitation. In that way the saga of high-speed trading represents another cycle in a pattern that that played out many times over human history.
The time we live through collectively is not God-given or physics-given. It is a construct of our culture and its technological capacity. It's a time logic that we have created. This is the moral of high-frequency trading for me as a physicist.
The next question, however, connects directly to Michael Lewis's own moral and it's simple. Are all time logics equal? Are all time logics good? Are all time logics sane? As we rush headlong into this new world of milliseconds, microseconds and nanoseconds, the time to address these questions is probably now.
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