October 18, 2010

Trichet’s recent comments on fiscal discipline illustrate the number one problem with regulation:

European Central Bank President Jean-Claude Trichet called for “more ambitious” rules to force member countries to maintain fiscal discipline and punish those who don’t.

“For the euro area, more ambitious reforms are needed to ensure the smooth functioning of monetary union,” Trichet said in a speech at the World Policy Conference in Marrakech. There must be “greater automaticity, accelerated timelines and reduced room for discretion in procedures.”

European Union finance ministers meet in Luxembourg on Oct. 18 to consider European Commission proposals to fix budget management and avoid runaway deficits that led to Greece’s near- default this year. France is balking at calls for the faster imposition of sanctions on deficit-ridden governments, putting it at odds with Germany and the ECB over how to prevent a repeat of the debt crisis.

Greece’s problems vis a vis the EU did not result from any lack of rules. There were lots of rules, and there was lots of knowledge about what Greece was doing. The problem was political wilfull blindness and lack of enforcement; more rules will not alter the human condition.

Espen Gaarder Haug shares my views on the Norwegian day-traders:

“Robot trading always involves a risk of weakness in the algorithm,” Haug points out.

“It is therefore important to monitor whether such risks pops up, so that these algorithms can be adjusted, or turn off. If you choose to let the robot run without supervision, you take an unnecessary, additional risk,” says Haug.

The ongoing court case in Oslo have revealed that the two charged day traders was able to exploit the same weakness over and over again.

Timber Hill (who is a part of the Interactive Broker Group) was not aware of this before the Oslo Stock Exchange contacted them on March 14th this year.

Testifying before the court on Tuesday, Thomas Borchgrevink, manager of market surveillance at the Oslo Stock Exchange, said: “I felt that they were not aware of this. They were not on the ball.”

Timber Hill closed down, temporarily, the robot in question when the Oslo Stock Exchange made them aware of the error, and has since modified the algorithms.

As noted on October 14 the Norwegian day traders have been convicted on charges of shouting that the emperor has no clothes.

John Hempton of Bronte Capital reports that Universal Travel Group has suffered the resignation of its auditor. The company seems to go through auditors rather quickly … Issues with Universal Travel Group were last reported here on September 28. The Motley Fool published a blanket recommendation of the company on September 20.

Reaching for yield is having a noticable effect:

The incentive for companies to reward shareholders at the expense of bondholders is on the rise as the benefits of maintaining high ratings disappears, signaling that two years of improved creditworthiness may be peaking.

Non-financial companies rated A by Standard & Poor’s have a cost of capital 0.1 percentage point more than those rated one tier lower at BBB, according to Morgan Stanley analysts, diminishing the value of the higher credit grade and erasing their 0.3 percentage point advantage 18 months ago.

Reuters has published a survey on some of the big shops’ willingness to invest in CoCos. The related article makes it appear that write-ups / write-downs (a la Rabobank) are currently favoured:

Other European banks are looking at bonds with write-down and write-up features that do not convert to equity. Italian bank Intesa SanPaolo’s hybrid Tier 1 bond issue last month had some of these elements.

Barclays is working on a new bond with a write-down and write-up structure that has no equity conversion.

I am not in favour of the write-down/write-up structure. It’s not a bond, it’s an insurance policy and, in Rabobank’s case, there was not necessarily any first loss protection. The prices of these things will become wildly volatile when close to the line and there is the potential for purchasers of new capital to get diluted instantly, which will make it harder – not easier! – to issue this new capital.

Jonathan Brogaard of Northwester University has written a paper titled High Frequency Trading and its Impact on Market Quality:

This paper examines the impact of high frequency traders (HFTs) on the U.S. equity market. I analyze a unique data set to study the strategies utilized by HFTs, their profitability, and their relationship with characteristics of the overall market, including liquidity, price discovery, and volatility. The 26 high frequency trading (HFT) firms in my dataset participate in 74% of all trades and make up a larger percent of large market capitalization firms. I find the following key results: (1) HFTs tend to follow a price reversal strategy driven by order imbalances, (2) HFTs make approximately $3 billion annually, (3) HFTs do not seem to systematically front run non-HFTs, (4) HFTs rely on a less diverse set of strategies than do non-HFTs, (5) HFTs trading level changes only moderately as volatility increases, (6) HFTs add substantially to the price discovery process, (7) HFTs provide the best bid and offer quotes for a significant portion of the trading day, but only around one-fourth of the book depth as do non-HFTs, and (8) HFTs do not seem to increase volatility and may in fact reduce it.

Froot, Scharfstein, and Stein (1992) find that short-term speculators may put too much emphasis on short term information and not enough on fundamentals. The result is a decrease in the informational quality of asset prices.

Vives (1995) obtains the result that the market impact of short term investors depends on how information arrives. The informativeness of asset prices is impacted differently based on the arrival of information, “with concentrated arrival of information, short horizons reduce final price informativeness; with diffuse arrival of information, short horizons enhance it” (Vives, 1995). The theoretical work on short horizon investors thus suggests that HFT may be benefit or may harm the informational quality of asset prices.

The Froot reference is the reason why all value investors should vigourously support HFT. The less information quality, the more chance to apply information profitably. I regret that I do not yet understand the Vives quote, but suspect it may be relevant to the behaviour of long bond prices in the ten minutes surround the release of the US jobs number.

I haven’t read it yet, but intend to when things calm down a little … maybe forty years? Themis Trading doesn’t like it:

The study’s author weighted the 120 stocks by market cap to approximate the amount of profits HFT earns in the industry. More important,however, is extrapolating results by actual trading volume. Doing that, the estimate of profits jump to $6 billion, and not $3 billion.

Finally, as with another study that was pro-HFT recently, it calls any HFT originating order that is a limit order Passive, and any HFT order that takes the other side Aggressive. I guess HFT does not exist in wide-spread mid and small cap stocks. If I place a bid in one of those stocks, and an automated HFT strategy places a limit order ahead of mine, because it is a limit order it is Passive, and not Aggressive, and predatory.

As this data is provided to the author of the study by an exchange, who in their for-profit model caters quite extensively to HFT firms, how can anyone place any credence in its conclusions ( HFT only makes $3 billion, HFT dampens volatiltity, and tightens spreads)?

Six Billion estimated profit? No wonder the entitled frat boys of the establishment are up in arms about somebody eating their lunch. Price improvement is predatory? Tell that to the player on the other side, who’s getting a better price. But if Themis can’t do better than an ad hominem attack on the data source, that’s rather telling in and of itself.

One way or another, the emphasis on price-reversal strategies is reminiscent of What Happened to the Quants in August 2007?.

Barrie McKenna had a column in today’s Globe titled Ottawa takes another shot at getting R&D on right track:

The government announced in its March budget that it was reviewing its R&D efforts. It took seven months just to pick six people to sit on the panel. Now it will take another 12 months to come up with recommendations, which history suggests will quickly be put on a shelf and left there.

In case anyone is counting, this marks at least the fifth time in less four years the government has launched a review of some aspect of the program. And almost nothing, innovative or otherwise, has yet come of it all.

Larger, public companies want access to the generous 35 per cent refundable tax credits that now go exclusively to private companies. Small and medium-sized companies worry that large public companies would quickly suck up most of the credits if the rules are loosened.

Even the accounting business has a lot riding on the review. The country’s major accounting firms earn steep “success fees” for securing credits for their clients. It is not unusual for an accountant to pocket $300,000, or 30 per cent, on a $1-million credit.

Well, there’s the problem right there, isn’t it? The objective is not to innovate, the objective is to funnel government welfare cheques to companies of the politically correct size. And, as the accountants can tell you (joining the chorus of Air Canada executives and dairy farmers, inter alia), why bother innovating when it’s much less hassle to suck the government tit?

Meanwhile the Globe squared its rot for a good boohoohoo about a recent arbitration award:

Martin Teplitsky, a prominent arbitrator and civil litigation lawyer, said in his decision that he would appear to be “a minion of government” if he took into account the university’s ability to pay. The inevitable result will be that the university must cut elsewhere to reward the professors, who are described in the arbitration case as “top-of-the-market”; they are certainly not among the wretched of the Earth, summoned to rise up in the socialist song The Internationale.

The award may be defensible under the abstract criteria of arbitration law – in this instance “a replication model of interest arbitration.” Fortunately the award is effective only until June 30, 2011. That gives some time for more legislation. Dalton McGuinty, the Premier of Ontario, and other first ministers across Canada, need to think hard about giving the force of law to more of their budgetary policies – turning labour arbitrators into their minions, if necessary.

Angela Hildyard, UofT’s Vice-President, Human Resources & Equity, explains:

The University and UTFA commenced discussions in January, 2009. Early in the process we agreed to ask Mr. Teplitsky to act as both mediator and, if necessary, arbitrator in the event we were unable to reach mutual agreement.

So the University gave up its ability to lock out the staff, and gave up its right to take its ability to pay into consideration when negotiating staff salaries. All the union had to do was to be stubborn and “ability to pay” would be taken off the table – and they were told this early in the process. Gee, isn’t it mysterious how they were unable to reach agreement?

So the university agrees – blindly – to an agreement they can’t afford, and the Globe bleats that politicians should change the rules, instead of demanding to know who got fired? Does the Globe really want to know why Canada has a productivity problem? Reason #1 is because stupid people don’t get fired.

Constable Adam Josephs, serving with 52 Division of the Toronto Police has disgraced himself, is emblematic of all that wrong with the police response to the G-20 protests, and is fully deserving of ridicule, scandal and contempt both personally and as a member of the Toronto Police Service.

Another blog has published what purports to be a screenshot of Officer Bubbles’ facebook page that shows an employment description consistent with his behaviour as seen on video: it would be interesting to have this screenshot confirmed or denied.

I do not feel safer on Toronto streets knowing that Adam Josephs has police authority. I do not feel any civic pride knowing the manner in which Adam Josephs represents me. And the funny thing is – if it hadn’t been for this ill-advised, crybaby lawsuit, I never would have heard of him! I’ve seen the cartoons at issue (published elsewhere) – they’re no worse than juvenile.

It was another strong day for the Canadian preferred share market, with PerpetualDiscounts up 9bp and FixedResets gaining 12bp, on continued heavy volume.

HIMIPref™ Preferred Indices
These values reflect the December 2008 revision of the HIMIPref™ Indices

Values are provisional and are finalized monthly
Index Mean
(at bid)
Mod Dur
Issues Day’s Perf. Index Value
Ratchet 0.00 % 0.00 % 0 0.00 0 -0.1453 % 2,183.0
FixedFloater 0.00 % 0.00 % 0 0.00 0 -0.1453 % 3,307.0
Floater 2.86 % 3.20 % 78,405 19.24 3 -0.1453 % 2,357.0
OpRet 4.93 % 3.91 % 80,173 1.93 9 -0.0087 % 2,361.9
SplitShare 5.88 % -26.70 % 64,813 0.09 2 0.2846 % 2,394.7
Interest-Bearing 0.00 % 0.00 % 0 0.00 0 -0.0087 % 2,159.7
Perpetual-Premium 5.70 % 5.03 % 144,791 5.36 19 0.1258 % 2,013.4
Perpetual-Discount 5.43 % 5.46 % 235,015 14.72 58 0.0919 % 2,007.1
FixedReset 5.26 % 3.06 % 335,889 3.27 47 0.1198 % 2,272.7
Performance Highlights
Issue Index Change Notes
BAM.PR.R FixedReset 1.31 % YTW SCENARIO
Maturity Type : Call
Maturity Date : 2021-07-30
Maturity Price : 25.00
Evaluated at bid price : 26.35
Bid-YTW : 4.30 %
RY.PR.H Perpetual-Premium 1.51 % YTW SCENARIO
Maturity Type : Call
Maturity Date : 2017-06-23
Maturity Price : 25.00
Evaluated at bid price : 26.19
Bid-YTW : 4.99 %
Volume Highlights
Issue Index Shares
CM.PR.J Perpetual-Discount 174,301 TD crossed 25,000 at 21.60 and 30,000 at 21.63. Desjardins crossed blocks of 28,700 shares, 49,500 and 25,000, all at 21.63.
Maturity Type : Limit Maturity
Maturity Date : 2040-10-18
Maturity Price : 21.33
Evaluated at bid price : 21.60
Bid-YTW : 5.21 %
RY.PR.L FixedReset 93,400 RBC sold 14,600 to Nesbitt at 27.25 and crossed 65,400 at 27.20.
Maturity Type : Call
Maturity Date : 2014-03-26
Maturity Price : 25.00
Evaluated at bid price : 27.19
Bid-YTW : 3.09 %
TD.PR.M OpRet 78,975 Desjardins crossed three blocks of 25,000 each, all at 25.90.
Maturity Type : Call
Maturity Date : 2010-11-17
Maturity Price : 25.75
Evaluated at bid price : 25.90
Bid-YTW : -4.44 %
PWF.PR.K Perpetual-Discount 76,396 RBC crossed 50,000 at 23.00.
Maturity Type : Limit Maturity
Maturity Date : 2040-10-18
Maturity Price : 22.76
Evaluated at bid price : 22.96
Bid-YTW : 5.40 %
RY.PR.R FixedReset 63,433 RBC crossed blocks of 20,000 and 26,000, both at 27.85.
Maturity Type : Call
Maturity Date : 2014-03-26
Maturity Price : 25.00
Evaluated at bid price : 27.86
Bid-YTW : 3.03 %
RY.PR.A Perpetual-Discount 62,337 Scotia crossed 35,000 at 22.00.
Maturity Type : Limit Maturity
Maturity Date : 2040-10-18
Maturity Price : 21.65
Evaluated at bid price : 22.00
Bid-YTW : 5.12 %
There were 54 other index-included issues trading in excess of 10,000 shares.

3 Responses to “October 18, 2010”

  1. […] The Canadian Civil Liberties Association has urged PC Adam Josephs to withdraw his childish lawsuit, fearing libel chill. Frankly, I don’t think the lawsuit stands a chance in court; it’s simply needless aggravation, just like so many of the G-20 arrests. The next time the press or the Toronto Police Service wants to bleat about the public’s lack of cooperation with, and distrust of, the police – I suggest the writer look at the video of Officer Bubbles’ conduct during the G-20 protests linked yesterday. […]

  2. […] mentioned on October 18 was High Frequency Trading and its Impact on Market Quality: bstract In this paper I examine the […]

  3. […] Libels? Slanders? With a court order you can already track down mean people who say mean things. Even Constable Adam Joseph’s of the Toronto Police knows that, as discussed on October 18, 2010. […]

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