Three new studies analyzing stock trading behaviors point to an unfortunate - if not long suspected - reality: the stock market is rigged in favor of the well-connected few while the rest are being played.
The papers make imaginative use of pattern analysis from data to find that insider trading is probably pervasive. The approach reflects a new way of analysing conduct in the financial markets. It also raises questions about how to treat behaviour if it is systemic rather than limited to the occasional rogue trader.
In the first paper, researchers looked at the period around the 2008 financial crisis and found that certain traders were particularly lucky in the several months after the Troubled Asset Relief Programme (TARP) was implemented:
The paper examines conduct at 497 financial institutions between 2005 and 2011, paying particular attention to individuals who had previously worked in the federal government, in institutions including the Federal Reserve. In the two years prior to the TARP, these people’s trading gave no evidence of unusual insight. But in the nine months after the TARP was announced, they achieved particularly good results. The paper concludes that “politically connected insiders had a significant information advantage during the crisis and traded to exploit this advantage.”
The last two studies could point to widespread 'inside information' among the biggest brokers, finding that certain traders seem to know in advance when significant announcements will happen:
The other papers use data from 1999 to 2014 from Abel Noser, a firm used by institutional investors to track trading transaction costs. The data covered 300 brokers but the papers focus on the 30 biggest, through which 80-85% of the trading volume flowed. They find evidence that large investors tend to trade more in periods ahead of important announcements, say, which is hard to explain unless they have access to unusually good information.
At the end of the day, leaked information can both help and hurt larger firms, but generally they fare far better than the smaller fish.
The real losers, the papers conclude, are retail customers and smaller asset managers. Common to all the papers is the recognition that the public markets are, as conspiracy theorists have long argued, not truly public at all. Changing the law to fix that may not even be feasible. But at least, in large-scale data-crunching, a new type of corporate sleuth is on the case.