There is always something just a little frustrating about reading a Michael Lewis book. On the one hand, Lewis' core point — whether it is that left tackle has become the second most important position in football ("The Blind Side"), or that the stock market has become rigged by high-frequency traders, as his new book, "Flash Boys," claims — is almost always dead-on. His ability to find compelling characters and tell a great story through their eyes is unparalleled. He can untangle complex subjects like few others. His prose sparkles.
On the other hand, there usually comes a point in a Michael Lewis narrative when it all starts to feel just a little too perfect. "Flash Boys," is no exception. The book's hero, Brad Katsuyama, is a young executive at the Royal Bank of Canada who realizes that something has gone awry with the stock market.
As he digs deeper, he realizes that secretive high-frequency trading firms, taking advantage of lightning-fast computers, willing accomplices in the stock exchanges and some poorly thought-out federal regulation, have effectively hijacked the equity markets. Roused to action by what he has discovered, Katsuyama quits his job and starts up a new exchange, IEX, which includes a clever "speed bump" that levels the playing field for investors.
So far, so good. But Lewis doesn't stop there. To make his hero appear even more heroic, he casts Katsuyama as the only person on Wall Street to figure out the high-frequency trading scam, and the only person with the courage to do something about it. That's not quite the case.
Nearly two years ago, Scott Patterson of the Wall Street Journal wrote a book titled "Dark Pools: The Rise of the Machine Traders and the Rigging of the U.S. Stock Market," which also exposed the scam. The book is structured remarkably like Lewis' — Patterson's got a heroic central character who learns the tactics of the high-frequency bunch and then acts on it by going to the Securities and Exchange Commission. Except Patterson's hero isn't Brad Katsuyama; he is Haim Bodek. When I caught up with Bodek, he groused about how Katsuyama had only part of the picture, and how there were other elements of high-frequency trading that needed as much if not more exposure.
Another critic of high-frequency trading who appears in "Dark Pools," Dan Mathisson of Credit Suisse, actually thought up an electronic exchange in 2011 — long before Katsuyama — aimed at keeping high-frequency traders at bay. There are other companies that also make it possible for institutional investors to trade blocks of stock without being subjected to the abuses of high-frequency traders.
What are those abuses? The one Lewis absolutely nails is a highly sophisticated version of front-running — that is, knowing how someone is going to trade and profiting by getting in front of that trade. This is illegal — except, apparently, when high-frequency traders do it. But even if high-frequency traders aren't violating the law, the tactic smells to high heaven, creating an unlevel playing field that costs investors money.
Bodek points to other scams — the way, for instance, high-frequency traders have their own special order types, a kind of secret handshake (approved, sadly, by the Securities and Exchange Commission) that moves them to the front of the queue. High-frequency traders are allowed to "co-locate" their computers inside the exchange, the better to ensure their speed advantage over other investors. The Wall Street Journal reported last summer that high-frequency traders can pay to get early peeks at business news releases, information they can trade on before anyone else.
From where I'm sitting, it is a blessing that Lewis chose to write about high-frequency traders. Others may have come before, but nobody else could have created the firestorm that Lewis did by going on "60 Minutes" and announcing that high-frequency traders had rigged the market. The FBI, 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.
Always before, discussions around high-frequency traders took place after events like the "Flash Crash" of 2010. Then the question was whether the computer technology used by high-frequency traders was destabilizing the market.