Brad Katsuyama: 'Flash Boys' and the speed of lies about my firm

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President and CEO of IEX Group Brad Katsuyama. Photo / Twitter @Mercer_INV, AFP
President and CEO of IEX Group Brad Katsuyama. Photo / Twitter @Mercer_INV, AFP

In the last few months, I have had a strange and interesting experience. In early April, I found myself the main character in Michael Lewis's book Flash Boys. It told the story of a quest I've been on, with my colleagues, to expose and to prevent a lot of outrageous behaviour in the US stock market.

After the book, our stock market, IEX Group, became a topic of discussion - some positive, some negative, some true and some false. Fair enough. If you're in the spotlight and doing something different, you should take the heat along with the light.

Read also: Felix Salmon: The narrative fallacy of 'Flash Boys'

It's for this reason that we have done our best to resist responding publicly to misinformation about our company - even when we read memos circulated inside banks that "Michael Lewis has an undisclosed stake in IEX" (he does not); that "brokers own stakes in IEX" (they don't); or articles in the Wall Street Journal that said we let "broker-dealers jump to the front of the trading queue," putting retail investors and mutual funds at a disadvantage (in reality, all orders arrive at IEX via brokers, including those from traditional investors).

Our hope in staying quiet was that the truth would win out in the end. But in recent weeks, the misinformation campaign has hit a new high (or low), and on one particularly critical matter, we feel compelled to set the record straight.

On July 7, Bart Chilton, a former commissioner of the Commodity Futures Trading Commission, wrote an article about us for the New York Times's DealBook. He argued, in effect, that because high-frequency trading has become so central to the stock market, it must be serving some necessary purpose.

"At any one time, it is likely that 50 per cent of all trades are made by high-frequency traders in United States equity markets," he wrote. "Even trading volume on the IEX exchange, which is trumpeted as creating 'institutional fairness' in the Michael Lewis book Flash Boys about the topic, is now made up of roughly 50 per cent high-frequency traders."

This is false: While high-frequency trading firms are estimated to generate 50 per cent or more of the volume on other stock markets, on IEX, high-frequency trading firms currently make up less than 20 per cent of our volume. (Note: It's difficult to predict the optimal proportion of HFT activity in any market, but it should definitely not be half the volume.)

There is a reason for this vast difference on IEX: We have sought to eliminate the unfair advantages HFT has over genuine investors (such as the combination of high-speed data and the ability to place their computers feet away from exchange-matching engines).

Read also:
Zachary Karabell: Why is Wall St so surprised about high-frequency trading?
Justice Dept. joins US high-frequency trading probe

By using technology to eliminate what we see as systematic unfairness - and the opportunity for certain traders (who purchase premium access at other markets) to prey on ordinary investors - we have discouraged a great deal of predatory high-frequency trading on IEX.

Those high-frequency traders who do trade on our market (we like to call them electronic market makers) are the ones who do not require some unfair advantage to succeed. By creating a market without distinct advantages, IEX has allowed the HFT crowd to define itself.

Chilton's claim has the effect of making us look no different than any other market. More generally, all these false rumours about IEX attack the foundation of what our team is trying to build - a fair marketplace, free of the conflicts of interest that have long plagued our financial markets. I am not sure what Chilton's motives were in using that statistic, but his sources were suspect at best: He claims they were "industry folks."

One thing we have witnessed in the Internet age is that a fiction can spread, eventually appearing to become fact. A few days after the article, the brokerage firm Raymond James & Associates published a report about exchanges and dark pools.

We read in disbelief as a licensed securities analyst claimed that "IEX isn't quite the sparkling pillar of righteousness that it is often portrayed in media reports. For example, much-vilified high frequency trading firms are a major source of liquidity on IEX." His validation for writing this was Chilton's incorrect claims.

With so many billions of dollars at stake, it is not surprising that some people will spin rich fictions about IEX - to deter others from believing in a fairer stock market. This is a battle being fought with words and numbers. So before you accept them as fact, make sure you consider the sources and their motivations.

Brad Katsuyama is the president and chief executive officer of IEX Group, an alternative trading system backed by a consortium of buy-side investors.

- Bloomberg

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