“De­spite IEX’S at­tempts to make trad­ing nicer, it is never go­ing to be a coun­try-club sport”

▶ The hero of Michael Lewis’s book wants to start a stock ex­change ▶ “They should have to play by the same big-league rules”

Bloomberg Businessweek (North America) - - Contents - �Robert Sch­midt and Dave Michaels Edited by Pat Regnier Bloomberg.com

Brad Kat­suyama was li­on­ized in Michael Lewis’s best-sell­ing 2014 book, Flash Boys, for com­ing up with a way to pro­tect or­di­nary stock in­vestors from preda­tory high-fre­quency—that is, flash—traders. His trad­ing venue, In­vestors’ Ex­change, briefly pauses all or­ders to take away the edge pos-s sessed by traders with su­per-er­fast com­puter net­works.

Now his firm, IEX Group, isis try­ing to be­come a full-fledgedd pub­lic stock ex­change. Such a des­ig­na­tion would carry a stamp of ap­proval from the U.S. Se­cu­ri­ties andnd Ex­change Com­mis­sion and boost the num­ber of trades IEX han­dles. (It ac­counts for about 1.7 per­cent of daily vol­ume for U. S. stocks.) Stand­ing in the way: some of the same high-speed traders who were cast as the heav­ies in Lewis’s book.

Lead­ing the charge is the hedge fund Citadel, whose bil­lion­aire founder Ken Grif­fin was fu­ri­ous about Lewis’s por­trayal of the firm, ac­cord­ing to two peo­ple who have spo­ken with him. Align­ing them­selves with such IEX com­peti­torsp as the New York Stock Ex­change andan Nas­daq, Citadel ex­ec­u­tives have trekked to Cap­capi­tol Hill to lobby con­gres­sion­al­con staff, and writ­ten­wri let­ters crit­i­cal of IEX tot the SEC, which has dede­layed its de­ci­sion.

“De­spit­edes IEX’S at­tem­pat­tempts to make trad­ing nicer, iti is never go­ing to be a coun­try-co­club sport,” says R. Cromwellc Coul­son, chief ex­ec­u­tive­exec of­fi­cer of OTC Mar­kets Group, who has watched the ba­bat­tle with keen in­ter­est. “Citadel playspla hard to win.”

IEX op­er­ates as a dark pool, a kind of pri­vate stock mar­ket that re­lies on bro­kers and traders to send it busi­ness. It em­ploys a speed bump that shields in­vestors’ or­ders from what it calls preda­tory traders. The in­for­ma­tion passes through IEX’S “magic shoe­box,” which con­tains 38 miles of coiled fiber- op­tic ca­ble that pauses trans­mis­sions by mil­lionths of a se­cond. The slight de­lay pre­vents speed traders from rac­ing ahead and mark­ing up prices when they see a big buyer in the mar­ket, or re­duc­ing them when they de­tect a seller, IEX says.

IEX’S op­po­nents ar­gue that de­layed or­ders mean stale prices, putting it in con­flict with a 2005 regulation that says in­vestors should get the best avail­able price.

“If they want to be an ex­change and

play in the big leagues, they should have to play by the same big-league rules as ev­ery­one else,” says John Nagel, Citadel’s se­nior deputy gen­eral coun­sel. He de­clined to com­ment on his firm’s meet­ings with con­gres­sional staff and SEC of­fi­cials.

Chicago-based Citadel, which also op­er­ates a mar­ket-mak­ing busi­ness, has in­vested heav­ily in high-fre­quency trad­ing and is a mas­sive pres­ence in the U.S. stock mar­ket. It of­ten ac­counts for more than 14 per­cent of daily trans­ac­tions. The firm reg­u­larly com­ments on SEC is­sues.

Grif­fin views IEX as an ex­is­ten­tial threat to mod­ern mar­kets, say the peo­ple who have spo­ken to him. (They asked not to be named be­cause the dis­cus­sions were pri­vate.) He be­lieves faster mar­kets make trad­ing eas­ier and cheaper for all in­vestors. He also didn’t like that Flash Boys por­trayed Citadel as se­cre­tive. (A com­pany spokesman says the book con­tained in­ac­cu­ra­cies about Citadel. Lewis says there were some small er­rors, but none had “the slight­est ef­fect on the broader story.”)

The firm says it’s wor­ried that if one ex­change is al­lowed to slow trad­ing, oth­ers would add speed bumps, lead­ing to mul­ti­ple venues with ob­so­lete price quotes. The change might even pro­vide op­por­tu­ni­ties for gam­ing the sys­tem, ar­gues Citadel.

Kat­suyama and John Ram­say, a for­mer SEC of­fi­cial who is IEX’S chief mar­ket pol­icy of­fi­cer, have also lob­bied House and Se­nate staff. In meet­ings, Kat­suyama used a notepad to sketch pic­tures that sim­pli­fied aspects of his firm’s mar­ket, down to the coiled cables, say peo­ple who at­tended. The firm’s ex­ec­u­tives dis­missed Citadel as a ben­e­fi­ciary of the sta­tus quo.

“This fight isn’t about a speed bump,” Kat­suyama wrote in an e-mail to po­ten­tial al­lies. “This is a fight about money— who makes it and from whom.” The de­ci­sion is be­ing closely watched, as it raises ques­tions that the SEC un­der Chair Mary Jo White has been slow to an­swer, about set­ting rules for mar­kets in which ma­chines move very, very fast. The bot­tom line Citadel, a big player in high­fre­quency trad­ing, wants to stop IEX from be­com­ing a pub­lic stock ex­change.

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