The Stock Market Does Not Exist To Serve The Long Term InvestorOct 6th, 2012 | By sspencer | Category: General Comments, Steven Spencer (Steve's) Blogs, Trading Theory
I appreciate being invited on to Bloomberg TV Monday to share my thoughts on market regulation and HFT trading. This issue has received a lot of press recently in part thanks to Mark Cuban who has used his notoriety to bring attention to an important issue. I applaud him for using his platform for bringing this issue into focus, first with this blog and then on CNBC, as the healthy functioning of US capital markets play an important role in our economy. I would like to clarify a few things that I did not have a chance to cover during my interview.
I have read and heard several times that the stock market exists to serve the “long term investor”. That is a mistake. The purpose of the stock market is to provide liquidity. Market liquidity offers an incentive for entrepreneurs and investors to invest capital in private companies with the goal of a profitable exit one day in the market. The ability to exit investments easily encourages a much higher level of economic activity than otherwise would be possible and in theory should help to grow our economy. So regulations should be directed at achieving this goal.
Making a value judgment as to whether the stock market should serve a particular constituency does nothing to further its economic purpose. What is helpful is coming up with policies that encourage the greatest amount of capital to flow into the market. The more capital flowing into the market the higher the valuations and the greater the liquidity. This encourages large private investors to continue to provide capital to private businesses as they have a viable exit strategy.
Long term investors rarely interact with the market so rules regarding order handling and HFTs impact them the least. They will most likely continue to allocate capital to the market as long as there is potential to achieve capital appreciation on their investments. It is nice to talk about how tighter spreads and lower commissions are great for the long term retail investor, but the truth is this benefit is only relevant in that it may incentivize them to commit more capital to the market.
As a short term trader I despise HFT at times as it has eliminated some of the manual trading strategies that were profitable in the past. I also don’t agree with many trading regulations and taxes that have a negative impact on my ability to trade profitability. But you won’t find me arguing against any of the above based based on self interest as I understand the market does not exist to serve the short term trader either. It exists to provide liquidity.
I previously published this post dealing with HFT and some of the unintended consequences of regulation.
Steven Spencer is the co-founder of SMB Capital and SMB University and has traded professionally for 16 years. His email is email@example.com.
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