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The stock market really was rigged. Katsuyama often wondered how enterprising politicians and plaintiffs’ lawyers and state attorneys general would respond to that realization. (This March, the New York attorney general, Eric Schneiderman, announced a new investigation of the stock exchanges and the dark pools, and their relationships with high-frequency traders. Not long after, the president of Goldman Sachs, Gary Cohn, published an op-ed in The Wall Street Journal, saying that Goldman wanted nothing to do with the bad things happening in the stock market.) The thought of going after those who profited didn’t give Katsuyama all that much pleasure. He just wanted to fix the problem. At some level, he still didn’t understand why some Wall Street banks needed to make his task so difficult.
Technology had collided with Wall Street in a peculiar way. It had been used to increase efficiency. But it had also been used to introduce a peculiar sort of market inefficiency. Taking advantage of loopholes in some well-meaning regulation introduced in the mid-2000s, some large amount of what Wall Street had been doing with technology was simply so someone inside the financial markets would know something that the outside world did not. The same system that once gave us subprime-mortgage collateralized debt obligations no investor could possibly truly understand now gave us stock-market trades involving fractions of a penny that occurred at unsafe speeds using order types that no investor could possibly truly understand. That is why Brad Katsuyama’s desire to explain things so that others would understand was so seditious. He attacked the newly automated financial system at its core, where the money was made from its incomprehensibility.
Technology had collided with Wall Street in a peculiar way. It had been used to increase efficiency. But it had also been used to introduce a peculiar sort of market inefficiency. Taking advantage of loopholes in some well-meaning regulation introduced in the mid-2000s, some large amount of what Wall Street had been doing with technology was simply so someone inside the financial markets would know something that the outside world did not. The same system that once gave us subprime-mortgage collateralized debt obligations no investor could possibly truly understand now gave us stock-market trades involving fractions of a penny that occurred at unsafe speeds using order types that no investor could possibly truly understand. That is why Brad Katsuyama’s desire to explain things so that others would understand was so seditious. He attacked the newly automated financial system at its core, where the money was made from its incomprehensibility.
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Puz’s peculiar ability to solve puzzles was suddenly even more relevant. Creating a new stock exchange is a bit like creating a casino: Its creator needs to ensure that the casino cannot in some way be exploited by the patrons. Or at worst, he needs to know exactly how his system might be gamed, so that he might monitor the exploitation — as a casino follows card counters at the blackjack tables. “You are designing a system,” Puz says, “and you don’t want the system to be gameable.” The trouble with the stock market — with all of the public and private exchanges — was that they were fantastically gameable, and had been gamed: first by clever guys in small shops, and then by prop traders who moved inside the big Wall Street banks. That was the problem, Puz thought. From the point of view of the most sophisticated traders, the stock market wasn’t a mechanism for channeling capital to productive enterprise but a puzzle to be solved.
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Their new exchange needed a name. They called it the Investors Exchange, which wound up being shortened to IEX. Before it opened, on Oct. 25, 2013, the 32 employees of IEX made private guesses as to how many shares they would trade the first day and the first week. The median of the estimates came in at 159,500 shares the first day and 2.75 million shares the first week. The lowest estimate came from the only one among them who had ever built a new stock market from scratch: 2,500 shares the first day and 100,000 the first week. Of the nearly 100 banks and stockbrokerage firms in various stages of agreeing to connect to IEX, most of them small outfits, only about 15 were ready on the first day. Katsuyama guessed, or perhaps hoped, that the exchange would trade between 40 and 50 million shares a day by the end of the first year — that’s about what IEX needed to trade to cover its running costs. If it failed to do that, there was a question of how long it could last. Katsuyama thought that their bid to create an example of a fair financial market — and maybe change Wall Street’s culture — could take more than a year. And, he said, “It’s over when we run out of money.”
On the first day, IEX traded 568,524 shares. Most of the volume came from regional brokerage firms and Wall Street brokers that had no dark pools — RBC and Sanford C. Bernstein. The first week, IEX traded a bit over 12 million shares. Each week after that, the volume grew slightly, until, in the third week of December, IEX was trading roughly 50 million shares each week. On Wednesday, Dec. 18, it traded 11,827,232 shares. But IEX still wasn’t attracting many orders from the big banks. Goldman Sachs, for example, had connected to the exchange, but its orders were arriving in tiny lot sizes, resting for just a few seconds, then leaving.
The first different-looking stock-market order sent by Goldman to IEX landed on Dec. 19, 2013, at 3:09.42 p.m. 662 milliseconds 361 microseconds 406 nanoseconds. Anyone who was in IEX’s one-room office when it arrived would have known that something unusual was happening. The computer screens jitterbugged as the information flowed into the market in an entirely new way — lingering there long enough to trade. One by one, the employees arose from their chairs. Then they began to shout.
“We’re at 15 million!” someone yelled, 10 minutes into the surge. In the previous 331 minutes they had traded roughly 14 million shares.
"Twenty million!”
“Thirty million!”
“We just passed AMEX,” shouted John Schwall, their chief financial officer, referring to the American Stock Exchange. “We’re ahead of AMEX in market share.”
On the first day, IEX traded 568,524 shares. Most of the volume came from regional brokerage firms and Wall Street brokers that had no dark pools — RBC and Sanford C. Bernstein. The first week, IEX traded a bit over 12 million shares. Each week after that, the volume grew slightly, until, in the third week of December, IEX was trading roughly 50 million shares each week. On Wednesday, Dec. 18, it traded 11,827,232 shares. But IEX still wasn’t attracting many orders from the big banks. Goldman Sachs, for example, had connected to the exchange, but its orders were arriving in tiny lot sizes, resting for just a few seconds, then leaving.
The first different-looking stock-market order sent by Goldman to IEX landed on Dec. 19, 2013, at 3:09.42 p.m. 662 milliseconds 361 microseconds 406 nanoseconds. Anyone who was in IEX’s one-room office when it arrived would have known that something unusual was happening. The computer screens jitterbugged as the information flowed into the market in an entirely new way — lingering there long enough to trade. One by one, the employees arose from their chairs. Then they began to shout.
“We’re at 15 million!” someone yelled, 10 minutes into the surge. In the previous 331 minutes they had traded roughly 14 million shares.
"Twenty million!”
“Thirty million!”
“We just passed AMEX,” shouted John Schwall, their chief financial officer, referring to the American Stock Exchange. “We’re ahead of AMEX in market share.”
