I think this is bad news but what do I know?

The average holding period for NYSE stocks is now down below six months. As Henry Blodget points out – and who knows better than he? – in that time frame, you’re not investing, you’re trading. And you’re speculating. So is this a bad thing or just an evolution in how Wall Street works? I fear it because it would seem to prevent long-term planning by companies, but you finance guys (and gals) can correct me.

From the article:

[C] an we please stop pretending that what most fund managers are doing every day is “investing”?  Holding stocks for six months isn’t investing.  It’s trading.  And because trading is a negative-sum game–one largely focused on trying to figure out what everyone else is doing–it is really speculating.

When you’re speculating, there’s no reason to pay attention to things like fundamental analysis, valuation, future cash flows, and all the other stuff they teach you in security-analysis school.  For holding periods of less than six months, those things don’t mean jack.  Over holding periods that short, the game is all about figuring out what everyone else thinks and then gambling that you’ll be right and they’ll be wrong.

So remember that next time your favorite fund manager sends you a note patting himself on the back for his investing prowess.  What he’s really talking about is speculating.

4 Comments

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4 responses to “I think this is bad news but what do I know?

  1. Anonymous

    Since the ultra-rapid trading “front running” has taken over the action, the “average” holding time must obviously decrease, with micro-seconds being the dominant holding time.

  2. Anonymousse

    This English major hopes your next thread will be something I can understand. Is there a translator app for my iPhone to tell me what your commentator Anon was talking about?

  3. Retired IB'er

    As anon points out, high freq. trading is dominating currently. Those in the “know” have said that high freq. trading is about 70% of market volume. Very scary stuff.

    For a primer on the issue I recently received a recent communication from a friend with his observations on the topic:

    High Frequency Trading Programs (HFTP) collect a ¼ of a penny rebate for every transaction they make. They’re not interested in making a gains from a trade, just collecting the rebate.

    Let’s say an institutional investor has put in an order to buy 15,000 shares of XYZ company between $10.00 and $10.07. The institution’s buy program is designed to make this order without pushing up the stock price, so it buys the shares in chunks of 100 or so (often it also advertises to the index how many shares are left in the order).

    First it buys 100 shares at $10.00. That order clears, so the program buys another 200 shares at $10.01. That clears, so the program buys another 500 shares at $10.03. At this point an HFTP will have recognized that an institutional investor is putting in a large staggered order.

    The HFTP then begins front-running the institutional investor. So the HFTP puts in an order for 100 shares at $10.04. The broker who was selling shares to the institutional investor would obviously rather sell at a higher price (even if it’s just a penny). So the broker sells his shares to the HFTP at $10.04. The HFTP then turns around and sells its shares to the institutional investor for $10.04 (which was the institution’s next price anyway).

    In this way, the trading program makes ½ a penny (one ¼ for buying from the broker and another ¼ for selling to the institution) AND makes the institutional trader pay a penny more on the shares.

    And this kind of nonsense now comprises 70% OF ALL MARKET TRANSACTIONS. Put another way, the market is now no longer moving based on REAL orders, it’s moving based on a bunch of HFTPs gaming each other and REAL orders to earn fractions of a penny.

    Currently, roughly five billion shares trade per day. Take away HFTP’s transactions (70%) and you’ve got daily volume of 1.5 billion. That’s roughly the same amount of transactions that occur during Christmas (see the HUGE drop in late December), a time when almost every institution and investor is on vacation.

    HFTPs were introduced under the auspices of providing liquidity. But the liquidity they provide isn’t REAL. It’s largely microsecond trades between computer programs, not REAL buy/sell orders from someone who has any interest in owning stocks.

    In fact, HFTPs are not REQUIRED to trade. They’re entirely “for profit” enterprises. And the profits are obscene: $21 billion spread out amongst the 100 or so firms who engage in this (Goldman Sachs (GS) is the undisputed king controlling an estimated 21% of all High Frequency Trading).

    So IF the market collapses (as it well could when the summer ends and institutional participation returns to the market in full force). HFTPs can simply stop trading, evaporating 70% of the market’s trading volume overnight. Indeed, one could very easily consider HFTPs to be the ULTIMATE market prop as you will soon see.

    TAKE AWAY 70% of MARKET VOLUME AND YOU HAVE FINANCIAL ARMAGEDDON.

  4. Rachelle

    This is but another symptom. The disease is government as currently (and unconsitutionally) constituted. Who would “invest” in a sure loser given the current chessboard?