Speeding out of control: Restoring investor confidence in the wake of high-frequency trading

Like a customer in a used car lot, the last thing you want to hear about where you’re doing business is that it’s “rigged” or that something’s “broken.” These are not words that garner investor confidence in the market.

But those are some of the charges being leveled against stock exchanges for permitting high-speed traders to use turbocharged technology to beat out their competitors at the expense of average investors.

{mosads}High-speed trading has been in the spotlight for months for press and regulators alike due in large part to Michael Lewis’s bestselling expose, Flash Boys: A Wall Street Revolt. Joining the list of agencies from the Securities and Exchange Commission (SEC) to the Commodities Futures Trading Commission (CFTC) probing the depths of high-frequency trading, a pair of Senate subcommittees is poised to further examine the issue this week.

This round of congressional hearings will dig in on high-frequency trading and its impact on investor confidence. On Tuesday, Sen. Carl Levin’s (D-Mich.) Permanent Subcommittee on Investigations took on the issue of conflicts of interest in the market and the next day Sen. Mark Warner’s (D-Va.) Securities, Insurance, and Investment Subcommittee of the Banking, Housing and Urban Affairs Committee looked at the economic impact of high-speed trading.

And as mentioned, agencies have already picked up the issue. The SEC’s chair, Mary Jo White, announced last week that the commission would be instituting changes to limit the harm from high-frequency trading. Though she took the posture that the market is not explicitly broken nor rigged, White acknowledged that the market has issues and proposed a series of changes to rein-in high speed trading.

Proposing to alter the market by instituting changes like an anti-disruptive trading rule to tamp down price volatility, White’s recent remarks serve as a clear indicator that those that watch our markets understand that high-frequency trading poses a problem in need of a solution. Other market adjustments proposed by White include extending registration and other requirements for proprietary traders and those who deal in off-exchange venues and specifically addressing computer algorithms used for trading. White also proposed changes to the way data is transmitted, displayed, and used.

The chair left the SEC’s options open by saying they would look at making necessary changes to “deemphasize speed as a key to trading success.”

While regulators are taking the first steps to change some of the rules of the road, it seems like they are in some ways missing the bus concerning the simplest solution to bring back investor confidence and make the market more accessible — the easy, one-stop policy of a small tax on Wall Street transactions.

If we can tax the sale of everything from a new car to a stick of gum, why not Wall Street trades?

A Wall Street tax, or financial transactions tax, is not a new idea; a similar tax was in place in the U.S. from 1914 to 1996. This reform would levy a small tax on trades like stocks, bonds and derivatives. Several proposals have been introduced in Congress that would tax financial transactions at rates from as low as 3 cents to as high as 50 cents for every $100 in trades.

The impact of such taxes are tiny for average investors, but would make a huge dent in the high-frequency trading that worsened the 2010 Flash Crash, causing the markets to spin out of control. Since super-speedy trading cashes in on profits of less than a penny when computers detect minute shifts in prices, a small tax on these sorts of trades would greatly shift the way markets are used, turning them back toward the long-term investment strategies that work better for Main Street investors.

Another huge benefit that would occur if the U.S. had a real tax on trades would be a real and relatively painless way to create significant revenue to pay for government services. Nonpartisan experts estimate that a tax on Wall Street trading of just .03 percent would generate more than $352 billion in revenue over 10 years. Congress should no longer have their blinders on when it comes to this potential revenue source.

Despite our “need for speed” society, the U.S. is getting left in the dust when it comes to instituting a tax on financial transactions. Not only are we being outpaced by a list of around 30 countries such as South Africa, Singapore and India with established financial transaction taxes, 10 European nations announced on May 6 their plans for unified taxation of stock and derivatives trades commencing by January 2016.

While we support the SEC, other agencies, and the Senate investigating and tightening up oversight, we also think the country needs a more lasting solution. It’s time for Congress and regulators to also jump on board with the idea of a Wall Street tax, where we can truly hit the brakes and slow the speed demons who have taken over the market.

Gilbert is director, and Harley is deputy director, of Public Citizen’s Congress Watch division.