Milliseconds after the announcement, trades were initiated in response. But some trades seemed to happen too quickly. Specifically, trading started in Chicago just 2-3 milliseconds after the announcement -- despite the fact that information ought to take 7 milliseconds to get there from DC. So how did the Chicago traders get access to the information? Nobody knows.
The Fed, of course, is investigating. You don’t just yoink 4-5 milliseconds off the central banking system of these United States of America without incurring a bit of wrath. But they’re investigating the wrong thing. The problem isn’t how the folks in Chicago got access to the info; it’s how a difference of 4-5 milliseconds can produce such an advantage. It’s the fact that the Fed’s system for disseminating information means that if you’re in D.C., you win -- New York, a little less; Chicago, a little less again; California, you lose.
Markets have always offered an unfair advantage to those who could get there first, but the ability to “get there first” has become the exclusive domain of algorithms, machines, dedicated fiber cables laid out along the shortest possible trajectory. Decisions have to be made at the speed of light, and humans can’t possibly compete.
There’s a fair amount of discussion about these issues in the media. Back in 2011, Kevin Slavin gave a TED talk on the power and danger of the algorithms that shape our world, focusing specifically on those that control the financial markets:
"…what could go wrong? What could go wrong is that a year ago, nine percent of the entire market just disappears in five minutes, and they called it the Flash Crash of 2:45. All of a sudden, nine percent just goes away, and nobody to this day can even agree on what happened because nobody ordered it, nobody asked for it. Nobody had any control over what was actually happening… And that's the thing, is that we're writing things, we're writing these things that we can no longer read. And we've rendered something illegible, and we've lost the sense of what's actually happening in this world that we've made."
And at the beginning of this year, Nick Baumann wrote a piece for Mother Jones called ”Too Fast to Fail: Is High-Speed Trading the Next Wall Street Disaster?” In it, he describes the challenge:
"Despite efforts at reform, today's markets are wilder, less transparent, and, most importantly, faster than ever before. Stock exchanges can now execute trades in less than a half a millionth of a second—more than a million times faster than the human mind can make a decision. Financial firms deploy sophisticated algorithms to battle for fractions of a cent… these programs exploit minute movements and long-term patterns in the markets, buying a stock at $1.00 and selling it at $1.0001, for example. Do this 10,000 times a second and the proceeds add up."
Baumann outlines a few potential solutions designed to reduce high-frequency trading and churn: a minimum quote life, or a tax on each trade. In the case of the Fed’s leaked information, the answer could be much simpler: issue the information simultaneously from all 12 Federal Reserve Banks, including the one in Chicago.
One thing is clear, though: when we’re dealing with milliseconds and microseconds, operating at speeds that eliminate the possibility of human participation, it’s time to reevaluate. There’s no going back on machine trading in the financial markets. But there is such a thing as going too far.