I just wish that societally we would put more of a financial emphasis on things that deliver the most social utility. That would solve the gradient problem, and still deliver efficiency since people would have different competitive advantage.
I think games are something of a poor example, since they clearly do bring happiness to people at least, but the financial industry seems to spend inordinate amounts of energy and human capital shaving milliseconds and tenths of a percent off trading strategies.
Imagine if we had some of those people being paid $300k salary + $300k bonus instead working on vaccines, or new antibiotics? Clearly the skills aren't transferrable, but there's a brain drain to finance that is unfortunate, and I think startups suffer some of the same social-good-to-reward-ratio problems
Those milliseconds being shaved off forex trading are the reason that commercial and retail spreads are much tighter than they were a decade ago.
When currencies were priced every second market makers had to set a spread that would protect them from market variance within that one-second period, as that time period shrunk the amount of risk dropped as did the spreads.
Think about the thousands of currency transactions that had to happen for your smartphone to exist. It makes a huge difference to international trade when you can pay a lower premium to exchange currencies.
Just because you don't understand the value something provides, it doesn't mean that it doesn't provide it.
I've never understood the claim that "market makers" are providing a valuable service in the stock market by providing liquidity and reducing spreads. If this is a necessary service, why aren't there market makers in every market?
My local grocery wants to sell bananas for $1.50 a pound, but I only want to pay $1.00. Why isn't there a market maker buying and selling these bananas thousands of times per second to reduce the spread between me and my grocer so we can meet in the middle?
oh right, it's because the market takes care of that for us. If others are happy paying $1.50 the grocer will stay at that price and I'll have to accept it or go without my bananas. If most buyers agree with me the grocer will have to lower their price if they want to sell the bananas. No market maker is needed.
You seem to be confusing a few different things here.
One of the fundamental purpose of a market maker is ensuring that both the supply and demand sides are capable of transacting when they want to, even if the supply and demand side don't necessarily want to trade at the same time.
So say the farmer only wants to sell bananas on a Monday and you only want to buy them on Thursday, so you can never do the transaction. So your grocer by buying the bananas when they're available and selling to them when you want them is in fact taking on some of the role of a market maker.
The reason that bananas don't need high-speed market making however is that the underlying supply and demand for bananas is pretty stable (I'm just guessing here; I don't know anything about the banana market). With currencies the supply and demand is in constant shift, everything from news events to someone making an online purchase in a foreign currency contributes to the shift. So a large part of the premium you pay for currencies is to manage that risk of the underlying supply/demand shifting. So by reducing that risk you can have lower premiums.
Say your grocer bought their bananas at $1 and was selling them at $1.50, what percentage of that 50 cents do you think goes towards managing the risk that the demand for bananas will collapse and the bananas might not be worth $1 any more ? - I'm guessing none of it because the bananas will likely spoil before the price of bananas shifts that much. Hence reducing that risk is pointless in the banana market.
I don't think that's true. It's certainly more convenient for me to go the grocer and know that, usually, they'll have bananas for sale. However, during the summer in my town there is a farmers market every week, where I actually can go and buy produce off the back of a truck. The prices are often cheaper and the products are often better. (Sometimes the prices are higher, but that's because the products are better: organic, varieties that don't ship well, etc.)
I can take this one step further, and actually go to many of the farms around here to buy produce right off the plants, by picking it myself. Even less convenient, but it makes for a nice weekend outing, and the prices are even cheaper.
Note that in both cases the prices drop for me and stay the same for the farmer by cutting out middle-men: the shippers, the grocer. By your terms, those are the market makers, and while they make produce commerce more convenient they're certainly not reducing costs for anyone. They're taking profits out of the parties on the two ends of the transaction.
I'll grant you that, in my example, the middle-men provide an essential service by giving me access to produce that is not produced locally, and by making that access more convenient. Neither of those apply to the financial markets though: as purely information-driven markets, they're accessible 24/7 from anyplace in the world. So again, what value are the market makers actually providing to the buyers and sellers of financial products?
Fair enough, the words about cheaper are arguable. I wouldn't want to try to buy bananas in a world where there was no one willing to take them off the truck and hold them for a few days though.
As far as financial markets, reliable prices are worth something (even though a reliable price is 'just information'). I agree that in heavily traded instruments, providing liquidity becomes a fairly abstract value, but if you are a large institution, having someone that will readily purchase enormous amounts of shares is a valuable service. For a lightly traded instrument, being able to sell it is also a valuable service.
I don't see enormous value in having lots of people spending lots of money chasing pennies, but I have trouble getting worked up about it. I suppose what it comes down to is that I am skeptical that rules designating who gets the tiny bit of slop available in financial transactions will be any more fair than the present system (where various HFTs are competing for the slop, often by essentially offering some of it to the parties in the transaction...).
If you're a large institution, and you want to sell an enormous amount of shares in some stock, the price of that stock should plummet if there aren't buyers available at the price you want to sell. Having a market maker buy those shares is hiding the fact that a huge position in the stock was just dumped and no one wanted to buy. Sucks for the company, but if you're not attractive to buyers or to the seller, then your market valuation was already wrong.
This would also curb the behavior of the large institution. They shouldn't be able to dump all of their holdings of a stock like that at a high price if there aren't real buyers at that price. The institution should be forced to chase the price down to pick up enough buyers for the whole position. If they still can't move it all, then they're holding a worthless stock. Sucks for them, but investing is a gamble and sometimes you lose your investment. You should've invested in a more valuable company.
The theme I'm getting at is that I think that market makers definitely alter the dynamics of the market, as they claim to, but contrary to their claims they do it in a way that benefits themselves and other financial institutions to the detriment of non-financial-industry investors and the companies and other real-value instruments (bond originators, mortgage borrowers, etc) being traded.
What is not real about the automated system? As far as I know, they pay real dollars. Is it the fact that the bet on the shares is short term?
There are some issues with HFT that I don't like, where different players are getting different access to information. Beyond that, I have trouble with the argument that parties that aren't me should have to engage in transactions that I like the shape of (or the other way around, should be prevented from engaging in transactions that I don't like. I'm using transaction here in the sense that both parties are acting freely...).
On the other hand, if your local grocery wants to sell bananas for $1.00 a pound tomorrow (because the have no banana today), but you want to pay $1.50 but you need them now (because you have a party), then someone with a scooter and a nearby warehouse can go and find some bananas for you (at $1.50) and replenish the banana stock tomorrow (at $1.00). Probably this business will not work with bananas, because bananas rote, the fuel cost and the time someone has to sit in front of the groceries. It's easier to implement with stocks and bonds.
I don't see the value; I never have. I understand that the market maker is able to extract profit from the spread, but they keep that for themselves. The original buyer and seller don't gain anything they wouldn't have gained otherwise, and it seems likely that one or both of them lose out on a share of that spread-profit.
I don't even own stock, but I believe the "value" is as simple as a reduction in the price for the buyer, along with an increase in liquidity for the seller, along with a reduction of the spread for both (which should make it easier to budget and make predictions).
Just because you don't understand the value something provides, it doesn't mean that it doesn't provide it.
I don't think the argument is that these optimisations don't bring value; it's that they don't bring as much value to society as an effective cancer treatment, or a new technology that cheaply and cleanly purifies water, or [insert other breakthrough here].
I think it's more about the ratio of value created vs. value extracted. Sure, more efficient markets create some benefits for the rest of us, but those benefits are the crumbs under the market makers' tables. So we get slightly better smart phones, huh? Whoop de do. That's a benefit very close to zero. If I had to choose between a new smart phone and one scoop of good ice cream, even for an equal price, I'd go for the ice cream. On the flip side, for that "amazing increase in market efficiency" quite a few financiers end up making nine or even ten figures. Which part of that really motivates them? Which part has a greater effect on society (a negative one BTW) ten years from now?
People who dismiss the value of complex derivatives and HFT and other Wall Street shenanigans don't necessarily lack understanding, and it's obnoxious to say so. They just add perspective to that understanding. People who obsess over prices and ignore true value are sociopaths and should be dealt with as such.
I think games are something of a poor example, since they clearly do bring happiness to people at least, but the financial industry seems to spend inordinate amounts of energy and human capital shaving milliseconds and tenths of a percent off trading strategies.
Imagine if we had some of those people being paid $300k salary + $300k bonus instead working on vaccines, or new antibiotics? Clearly the skills aren't transferrable, but there's a brain drain to finance that is unfortunate, and I think startups suffer some of the same social-good-to-reward-ratio problems