The US finance industry uses self-generated work which generates commissions.
One of the drivers behind this is the tax preference for debt over dividends. There's been a trillion dollars worth of stock buybacks since 2008, an action taken mostly to reduce taxes. That generates work for Wall Street, and wealth for those "near the money", working on various deals.
Then there are "hedge funds". Hedge funds, as a class, underperform the market, partly because of their excessive fees. The traditional hedge fund fee is "2 and 20", or 2% of the amount invested each year plus 20% of gains. This, too, is self-generated activity of Wall Street.
Then there are Exchange Traded Funds. Regular mutual funds are priced once a day, after the market closes. ETFs are constantly traded, generating commissions. ETFs have some tax advantages over regular mutual funds, and are thus another exploit of a flaw in tax policy. They can also be shorted and optioned, which are zero-sum operations which do nothing for the economy.
Then there's high-frequency trading, which is a form of front-running. This skims a tiny percentage off of other transactions.
None of this contributes to capital formation, and most of it was illegal a few decades ago.
This reads like you read one click-bait article about each subject mentioned and declared yourself an expert on all of the above. It really is woefully un-informed.
Since he paints such broad strokes in different areas, it would be extremely time-consuming to address every one of his points.
But, for one, simply saying HFT = front running shows an extremely shallow understanding of what HFT is. To say that HFT is "skimming" money off of every transaction is to ignore the what market making is, and has been throughout the existence of capital markets. Yes, there is a price to every transaction (much of which is the spread between bid and offer), and part of that spread goes to the market maker simply because of the way markets work. Because HFT outfits are so efficient at market making, this cost of transacting is lower than it has ever been.
Characterizing HFT as market makers takes advantage of the lay public's relative shallow understanding of market making. The general public's perception of market makers' function is closer to the old style DPM that is more akin to the "thick and thin" liquidity providers than the "fair weather friend" style liquidity providers that HFT's act as; HFT's turn off their liquidity spigot far faster than DPMs.
It is more descriptive to call HFTs price discovery specialists, or some other heretofore undefined term, than conflating with a historical term. They do serve a valuable function in price discovery and spread squeezing, through sanctioned, but unregulated, use of different and higher speed access to both market information and market access (typically through direct connection to an exchange as opposed to a SIP-like feed). That separate tier of access is what gives rise to the front-running characterizations. It is functionally similar to the many, many other separate tiers of access enjoyed by large capital holders over small capital holders, but it is in a highly publicized arena of the financial services world, so it becomes a very emotionally-charged topic, on all sides of the discussions.
I'm not getting into whether those separate tiers of access are "right" or "wrong" here, or even whether or not they should/shouldn't be regulated. There is likely little argument that financial services and politics (the two are far more intertwined than most realize) should perform as handmaidens to civilization, rather than the pilot house; I say the point of these kinds of discussions in this thread is it has become arguable for many that those fields have seized not only the ship's wheel but the navigator's table as well. I wouldn't personally go quite that far, but there are salient points being made.
I think you're taking an overly pessimistic view on a number of things. Both volatility and bid-ask spreads are down considerably since the growth of high-frequency trading.
Buybacks in general are bad for everyone involved because they're often done when valuations are high, however, they can be beneficial to shareholders when valuations are low.
Shorting helps facilitate price discovery and options are used to protect against large downside risks.
> Hedge funds, as a class, underperform the market, partly because of their excessive fees.
You're thinking of mutual funds. Hedge funds as a class do outperform the market, even after fees.
> You're thinking of mutual funds. Hedge funds as a class do outperform the market, even after fees.
False. Lousy studies of hedge funds show they outperform, but the second you take into account survivor bias, the opposite is true. There have been huge numbers of terrible hedge funds created and liquidated that swamp the few successful ones that everybody hears about.
You chose a five year period of underperformance when the markets are doing extraordinarily well. On the whole HF returns are higher than the market by about 6%. And in particular during the financial crisis hedge funds did better than the market as a whole.
> Buybacks in general are bad for everyone involved because they're often done when valuations are high, however, they can be beneficial to shareholders when valuations are low.
The company paying you a dividend is mathematically equivalent to everyone tendering the company that percentage of their shares for cash and then having a stock split so that everyone ends up with the same number of shares they had originally. The only practical difference is the tax treatment.
One of the drivers behind this is the tax preference for debt over dividends. There's been a trillion dollars worth of stock buybacks since 2008, an action taken mostly to reduce taxes. That generates work for Wall Street, and wealth for those "near the money", working on various deals.
Then there are "hedge funds". Hedge funds, as a class, underperform the market, partly because of their excessive fees. The traditional hedge fund fee is "2 and 20", or 2% of the amount invested each year plus 20% of gains. This, too, is self-generated activity of Wall Street.
Then there are Exchange Traded Funds. Regular mutual funds are priced once a day, after the market closes. ETFs are constantly traded, generating commissions. ETFs have some tax advantages over regular mutual funds, and are thus another exploit of a flaw in tax policy. They can also be shorted and optioned, which are zero-sum operations which do nothing for the economy.
Then there's high-frequency trading, which is a form of front-running. This skims a tiny percentage off of other transactions.
None of this contributes to capital formation, and most of it was illegal a few decades ago.