Here’s an interesting vision of investing from 1995 as penned by Peter Bennett, an electronics engineer, designer and developer of information and trading systems for financial exchanges. It was featured in the World Handbook of Stock Exchanges that year. (H/T Herbie Skeete).
While 1995 is not quite the era of Paul Tudor Jones’ heyday — as featured in the Trader — it was still a time when mobiles were big, laptops were rare, and internet connections went gshhhhh grrr rump rump roo grr gshhh grrr rump rump gshh grr rump grr grrr grrr.
As can be seen from the following extract referring to a curious black cube computer, algorithms and multilateral trading facilities (MTFs) were seen as a potential bastion for greater market accessibility and transparency, not the evil robots they’re suddenly being made out to be now:
This machine could entertain: totally realistic 3-D simulations of anything that moved and immersive virtual tours of the world’s great attractions were a given. One of Jamie’s favourites was the Silicon Theatre. This used digitally synthesized actors and props, each with its own behaviour and characteristics.
The software could recreate, from a library of scripts, any movie, theatre production, sporting, or historic event known to man. It could also create, on the fly, original entertainment from computer readable scripts that could be downloaded from content developers on the Internet or which the computer could make up itself.
Jamie’s liked to join the activities in the guise of an avatar of Jamie’s choosing and by its actions affect the outcome of the proceedings. But above all Jamie liked playing the capital markets game–Jamie was one of the few private individuals licensed to trade on Market Central.
The big Financial Information Service Vendors had established this global electronic trading system when they’d yielded to customer pressure to bridge their networks and rationalize. They had also seen their traditional information distribution business wane, as the Internet became the prime source of financial information. The provision of trading services met the revenue shortfall.
They’d also formed Market Watch, the global self-regulatory federation, to oversee and regulate trading operations. This development had been the final nail in the coffin for many of the world’s stock and futures exchanges, which had either shut up shop or become museums. In most countries, small government agencies and secondary market regulation now did listing duties and company regulation working via a protocol with Market Watch.
On the market itself:
On Market Central, you could buy and sell every conceivable security, equities, bonds, commodities, money, options, futures, swaps, and repos as well as the so-called synthetics. Synthetics were compound instruments, issued by the AAA investment banks that provided tailored exposure to a variety of risk and reward situations. With an annual turnover measured in hundreds of trillions of Euros, Market Central’s income came from a tiny commission charged on successfully executed trades. Capital market players could contract with any of the operators. The trading system was a common service and each of Market Central’s operators competed on the basis of cheaper and better access and additional services.
On the rise of the algo-bots:
Trading was computerized. Orders to buy or sell a particular security were posted to electronic public limit order books maintained by Market Central. The orders were matched automatically in price/time priority. There was no longer a need for market makers to risk their capital to provide market quotations. Prices were established automatically by the ebb and flow of orders through the central trading computers. Most firms had automated their trading, which was driven by predetermined investment strategies and policies embedded in computer code. They connected their trading computers to Market Central and for the most part left them on autopilot. Firms competed on the calibre of their investment analysts and programmers, the new style traders, who wanted for nothing in terms of the latest computer wizardry. The biggest firms employed huge farms of computers working in unison in an effort to beat the market.
On how it worked:
Most traders worked for the hundred or so big banks and fund managers that accounted for the lion’s share of trading measured by value. To qualify as a private trader you had to sit a tough exam every year. Jamie’s system was inspected and certified annually by Market Central engineers. The last inspection included a huge number of tests to ensure millennium compliance. Individual traders needed a bank guarantee to cover unsettled trades. Settlement was done electronically and continuously through any one of three clearing and settlement hubs owned by the big banks. Jamie’s guarantee stood at $50 million, was reviewed daily, and was twice covered by negotiable instruments and cash on deposit.
The big boys put up daily margins calculated according to the value of their open-settlement positions netted across all the instruments traded on Market Central. Jamie had joined the capital markets game in 1985. At the time he had been happily employed in oil exploration. He used a Cray super computer, then the most powerful number cruncher in the world, to find commercially exploitable deposits. The machine ran computer programs incorporating expert knowledge, and sifted through the mountains of data gathered through seismic, aerial, and underwater surveys.
The analysis produced pictures pinpointing where commercially exploitable deposits of oil and gas might be found. Jamie had become a recognized expert in the art and science of “data mining.”
And how Jamie’s data mining experience was of interest to a wider sector:
One day he had been surprised and flattered by a call from a head-hunter. A New York investment bank planned a new type of trading operation in London to coincide with London’s Big Bang. They wanted Jamie on board. As he sipped champagne on the New York Concorde, he pondered why an investment bank should need a geologist who understood computers. And how Jamie’s abilities could be of use to a banker:
He went on to explain, in his blunt but effective style, a variation of the game, the arbitrage technique. You bought a stock or commodity in one place where it might be undervalued, and sold it immediately elsewhere at market value. The bigger banks with global reach and big bucks had enjoyed an arbitrage edge over the smaller outfits. Improvements in communications in the 1970s and 1980s had gradually eroded that edge. Now the attention was turning to time arbitrage. There was evidence emerging that it was possible, through skilful computer analysis of mountains of historic data, to see repeating patterns and trends that could not be explained by the current market theories.
To which Jamie said:
“Are you talking about using computers to predict future prices?” Jamie asked incredulously. “Sure,” the trader replied. “The economists say you can’t beat the market. They’ve got this theory that current market prices reflect all information known about a security. But what do they know? There are people in the loop, see, and you can read people. What do you think?”
You can read the full vision in the Long Room. It leads to a very happy and profitable ending for Jamie and his firm.
Related links:
IT paranoia - FT Alphaville
Free money! Honest – FT Alphaville
High frequency trade in Europe – FT Alphaville
The Trading Room - FT Alphaville