Speaker 1: Hello, and welcome to another episode of the Odd Lots Podcast.
Speaker 1: I'm Tracy Allaway and I'm Joe. Wisn't all Joe? Do
Speaker 1: you remember Game Stop? No? What was that? Tracy? I
Speaker 1: forgot game stuff? Sorry, not not familiar with it. You know,
Speaker 1: one of the most remarkable things about that whole episode
Speaker 1: was that, for a brief, glorious moment in time, everyone
Speaker 1: was talking about market structure and things like payment for
Speaker 1: order flow, dtc C collateral like that was a discussion
Speaker 1: that you could actually have in mainstream media and sort
Speaker 1: of with your average person on the street. Yes, but
Speaker 1: I mean those conversations were in many cases deeply missing formed.
Speaker 1: So it is true that there was a lot of
Speaker 1: talk about market structure and payment for order flow and
Speaker 1: the dtc C and all that, and I actually did
Speaker 1: learn stuff, but there was a lot of noise of
Speaker 1: people who, like you know, spinning conspiracy theories about all
Speaker 1: this stuff hyprequency trading, how it really worked. Um, So
Speaker 1: hopefully people learn something, But I also suspect a lot
Speaker 1: of people went away from that whole episode unless they
Speaker 1: listen to lots of course much less in form Look,
Speaker 1: I'll take what I can get when it comes to
Speaker 1: getting people like interested in market structure. But I think
Speaker 1: you're right. I think probably especially on the payment for
Speaker 1: order flow subject, because it sounds kind of nefarious. You know,
Speaker 1: why would someone pay you for trade order flow? They
Speaker 1: must want something, they must be doing something with the information.
Speaker 1: I think it tends to lead to you know, a
Speaker 1: lot of suspicion. Yeah, I think that term in particular,
Speaker 1: you nailed it. There's something about that term that like
Speaker 1: invites a lot of sort of conspiratorial thoughts. Yeah, exactly.
Speaker 1: And of course we saw that really ramp up during
Speaker 1: the game's top drama. We even saw Congress start to
Speaker 1: you know, they had an inquiry into payment for order flow.
Speaker 1: The concern is that high frequency traders are somehow profiting
Speaker 1: off of that order flow in a way that hurts
Speaker 1: retail investors. And of course Robin Hood uses Citadel as
Speaker 1: its market maker, so we saw Citadel in the news
Speaker 1: as well. Citadel is uh one of its market makers. Uh,
Speaker 1: I think, so, which is something we'll get into. It's
Speaker 1: like all these a lot. I mean, I've been sort
Speaker 1: of like spending the weekend looking at some of these
Speaker 1: stats that the brokers phase and I have lots of
Speaker 1: questions about that. Um, so who are what are we
Speaker 1: going to talk about? How are we going to get
Speaker 1: into this? Okay, so today we are going deep into
Speaker 1: the payment for order flow discussion, and we're also going
Speaker 1: to talk more broadly about what exactly a market maker
Speaker 1: actually does. We have the perfect person to talk about
Speaker 1: all this. We have the CEO of Virtue, Doug Si. Welcome, Duve. Hello,
Speaker 1: how are you guys doing? Hey, We're good. Thanks. Um,
Speaker 1: maybe to begin with, we should kind of go straight
Speaker 1: to the elephant in the room and talk about something
Speaker 1: very very serious. But what's up with the hot dogs?
Speaker 1: So on your Twitter account you seem to talk a
Speaker 1: lot about hot dogs? What's going on? Well, I resent
Speaker 1: the elephant in the room analogy. I'm a bigger guy
Speaker 1: and my Twitter handle is Dougie Large. So, against my
Speaker 1: better judgment, about ten years ago, I opened a Twitter
Speaker 1: account and then my partner I bought a hockey team
Speaker 1: and I started tweeting about hockey. And you know, hockey
Speaker 1: fans for the most part are favorable, nice people, but
Speaker 1: then you get to five percent of the keyboard warriors
Speaker 1: and it started to be abusive towards me. So I
Speaker 1: stopped tweeting about hockey to said, don't tell I'm talking
Speaker 1: about And I happen to run, as you say, a
Speaker 1: quote unquote high frequency trading firm. And in two thousand fourteen,
Speaker 1: there was this little book called flash Boys that came
Speaker 1: out and dark pools and all these nefarious sounding terms,
Speaker 1: and people started tweeting me like I was a criminal.
Speaker 1: And I said, okay, well that's not a good topic.
Speaker 1: I guess I'll stop doing that. And then I found
Speaker 1: the one universal in this country that nobody can say
Speaker 1: anything negative about. It's the great American hot dog. And
Speaker 1: there's a company called Feltman's which is founded by two
Speaker 1: great veterans from West Point, and they rediscovered the original
Speaker 1: cone Allan hot dog and they're fantastic. They've got the
Speaker 1: perfect mix of spices and they kind of pop when
Speaker 1: you eat them. And I decided, Okay, if I get
Speaker 1: behind these guys, I have no financial interest. I just
Speaker 1: love them. They're great Americans and they have a great
Speaker 1: hot dog. I said, there's not a chance people can
Speaker 1: give me grief about tweeting about hot dogs. And you know,
Speaker 1: I have not had any negative comments. These these look
Speaker 1: really good. I'm on their website right now, and I'm
Speaker 1: definitely going to mustard get the mustard. Also, trust me,
Speaker 1: when I tied the mustard better than like a sell,
Speaker 1: I put it on everything. I put on everything. I'm
Speaker 1: definitely gonna order or something. I know market making. I
Speaker 1: know market making and eating. Those are the two things
Speaker 1: I'm an expert in. Maybe we should also talk about
Speaker 1: market making though, if you insist, So what is H two?
Speaker 1: So I just give us the sort of brief version
Speaker 1: of its history and what how it fits into the
Speaker 1: sort of market ecosystem. Sure, sure, So we started in
Speaker 1: two thousand eight, Beril even or not. My partner was
Speaker 1: an old school market maker. He was in the pits,
Speaker 1: you know those trading pits, remember the movie Trading Places
Speaker 1: of the New York of the New York Mercantile Exchange.
Speaker 1: His name was Vinny Viola. He was an old school
Speaker 1: market maker. Stood in the middle of the pit and
Speaker 1: a bunch of guys screamed orders at him, and he
Speaker 1: tried to make what is known as the bid offer,
Speaker 1: spread the difference between what a willing buyer and a
Speaker 1: willing seller we're willing to pay. In that in that pit,
Speaker 1: he was trading mostly like crude and gasoline futures, right,
Speaker 1: So he was a futures trader. And Vinny was smart
Speaker 1: enough to realize that two odd guys standing in a
Speaker 1: circular pit screaming at each other making funny hand signals
Speaker 1: wasn't not going to be the end state of financial intermediation,
Speaker 1: price discovery, trading, whatever you want to call it, and
Speaker 1: that technology was going to evolve that process. And so
Speaker 1: that was his thought behind forming Virtue Financial. I was
Speaker 1: a lawyer, very happily at a l offer him in
Speaker 1: Manhattan called Paul Weis. For eighteen years I was his lawyer,
Speaker 1: and he said said to me one day, you know
Speaker 1: you'd be a hell of a businessman. Do you ever
Speaker 1: think about quitting being a lawyer? I said, not until now,
Speaker 1: and then I quit and we started Virtue and our
Speaker 1: idea was to be a very large scaled, automated financial
Speaker 1: intermediary market making firm that would try to be the
Speaker 1: best bid and the best offer in every electronic marketplace
Speaker 1: in the world. We had a very ambitious goal and
Speaker 1: obviously we're we're more well known as you guys indicated
Speaker 1: in your lead in for US equities and being a
Speaker 1: what's called a wholesale market maker, but we make markets
Speaker 1: in over two d and fifty different marketplaces in the world,
Speaker 1: in global equities, but also in f X, and in
Speaker 1: treasury futures, and in commodity products and medals and corn, sugar, cocoa,
Speaker 1: you name a product that is trade electronically in a
Speaker 1: venue in the world. Frankly, where there's enough need for liquidity,
Speaker 1: provider a market maker, and that's what Virtue does. And
Speaker 1: we also, through an acquisition, have a very large agency
Speaker 1: business where we act as an agent for clients that
Speaker 1: want to access generally the global equities market. So it's
Speaker 1: a pretty large scaled global financial services firm. On the
Speaker 1: CEO of it, we've got about a thousand employees twelve
Speaker 1: offices around the world and last year we generated about
Speaker 1: two point three billion dollars of net trading revenue and
Speaker 1: that equated to roughly about a billion six five of
Speaker 1: of IBADA so adjusted EBADA. So we're pretty large financial
Speaker 1: services firm. That's what we do. Not bad. Yeah, I
Speaker 1: think your stock is up quite a lot as well.
Speaker 1: And you're the only publicly traded market maker over in
Speaker 1: the US, so you have that distinction too. That is correct.
Speaker 1: Just on the market making business. Could you maybe talk
Speaker 1: to us a little bit more about that. I think
Speaker 1: we throw this term around quite a lot, like, oh,
Speaker 1: they make markets and whatever, But can you talk to
Speaker 1: us about what exactly that entails and why don't we
Speaker 1: narrow it down to US equities? Yeah? Sure, so in
Speaker 1: US equities, think of it. There's two forms of market making,
Speaker 1: if you will, that we engage in. So right now,
Speaker 1: believe it or not, there are fifteen national securities exchanges.
Speaker 1: You you probably know NASDAC in New York, but there's
Speaker 1: another thirteen i E actually may have heard of. Maybe
Speaker 1: you've heard of the cbo E Stock Exchange. But then
Speaker 1: there's you know a ten or other ones, including the
Speaker 1: Members Exchange, which I helped start at Virtue, you know
Speaker 1: those kinds of things. And so we are a firm
Speaker 1: that does not really care about directional risk. In other words,
Speaker 1: we're not a hedge fund. We're not speculating. We're not
Speaker 1: buying Tesla at at six hundred hoping it goes to
Speaker 1: eight hundred. Really, what we're trying to do is be
Speaker 1: the guy that's on the inside that's willing to buy
Speaker 1: from you and sell to you, right and sell to
Speaker 1: somebody else to try to make that little penny spread
Speaker 1: every single time. So are holding time in most of
Speaker 1: the top five names of US equities you know will
Speaker 1: be hopefully a few seconds or less than a second, right,
Speaker 1: because the likelihood that a willing buyer and a willing
Speaker 1: seller come together at exactly the same moment in time
Speaker 1: is pretty diminimous. It's sort of like if you think
Speaker 1: about the Civil War, the Revolution I wore two bullets
Speaker 1: meeting in the middle of the air. It doesn't happen
Speaker 1: all that often. So you need a company that is
Speaker 1: willing enable, has the financial resources, but also understands those
Speaker 1: The US equities market, with fifteen national securities exchanges and
Speaker 1: forty different dark pools and a bunch of other brokers,
Speaker 1: it's a very fragmented market. So stitching together that marketplace
Speaker 1: takes a lot of financial technology and a lot of investment.
Speaker 1: We invest hundreds of millions of dollars every year to
Speaker 1: have technology that's able to understand and stitch that marketplace together.
Speaker 1: But again, the difference between what we do and when
Speaker 1: a lot of other other firms do, like quote unquote
Speaker 1: high frequency trading firms, is that we are a passive
Speaker 1: market maker. We're always entering the market by saying, here
Speaker 1: we go. We're willing to sell you something at ten,
Speaker 1: we're willing to buy it at nine, and there's a
Speaker 1: penny spread in between, and we hope to collect that.
Speaker 1: More often than not, a lot of times we get
Speaker 1: run over and we lose money. You mentioned game stop before.
Speaker 1: I'm sure we'll talk about that plenty. But in the
Speaker 1: game stop situation, when the markets just crashing one way
Speaker 1: or together, the market maker pretty much gets its face
Speaker 1: ripped off right. It's on the train tracks, the trains coming,
Speaker 1: and it can't get out of the way. The other
Speaker 1: thing we do, which I'm sure you want to talk
Speaker 1: a lot about, is what we call whole selling. So
Speaker 1: there are these institutions called retail brokers, wealth managers. You
Speaker 1: know robin Hood, Fidelity, Schwab e Trade which is now
Speaker 1: Morgan Stanley, but also Stifle, Raymond, James, JP, Morgan Asset Management,
Speaker 1: RBC Wealth Management. Think of any aggregator of high net
Speaker 1: worth or professional trading flow. In the United States. We
Speaker 1: have this unique structure that those institutions have a choice.
Speaker 1: They can send their orders, their market orders right to
Speaker 1: either in exchange to a dark pool, or they can
Speaker 1: send it to a whole sell or a market maker.
Speaker 1: Citadel is the largest retail market maker. We're number two.
Speaker 1: They've got roughly the market we've got roughly. And then
Speaker 1: there's a handful of other institutions, Susquehanna too, Sigma Ubs,
Speaker 1: We're all competing for that order flow from roughly two
Speaker 1: hundred retail brokers, wealth managements, wealth managers, excuse me, aggregators
Speaker 1: of flow, etcetera. So you just named a bunch of
Speaker 1: market makers that you compete with, and I'm wondering, when
Speaker 1: it comes to something like market making, it sounds like
Speaker 1: such a basic function. You know, you're matching up buyers
Speaker 1: with sellers and you're taking a small cut of the transaction.
Speaker 1: What is competing or what does competition actually look like
Speaker 1: in that scenario? Like what what makes Virtuo special or
Speaker 1: different to say Citadel or Susquehanna. Yeah, that's a great question.
Speaker 1: So I should have actually, uh explained that better. So
Speaker 1: let's go back to the two hundred institutions we we
Speaker 1: we that I mentioned before, right, everybody from a Merror
Speaker 1: trade to Zecho Trade eight Z and everybody in between.
Speaker 1: Every single one of those institutions has the best Best
Speaker 1: Execution committee, And what they're measuring is there's something called
Speaker 1: a national best bid and best offers. So that's the
Speaker 1: consolidated tape. You take those fifteen national securities exchanges and
Speaker 1: you say, okay, at any moment in time, right, for
Speaker 1: at least a hundred shairs, what's the what's the best
Speaker 1: price that someone is willing to sell in the best
Speaker 1: price that someone is willing to buy a particular security.
Speaker 1: That's called the n b B Okay. And so every
Speaker 1: one of those retail brokers gets the same feed, right,
Speaker 1: the same consolidated feed that we do, right, and they
Speaker 1: all measuring at the time that they send us a
Speaker 1: market order. Right, you want to buy a hundred shares
Speaker 1: of Tesla, what was the national best offer for Tesla
Speaker 1: at that moment in time? Okay. What we do as
Speaker 1: marketmakers is we try to improve that national best bid
Speaker 1: or best offer. That's called price improvement or e Q.
Speaker 1: And as you mentioned in your in your lead in,
Speaker 1: all of the statistics around price improvement are publicly available,
Speaker 1: and so the brokers have their own routing statistics where
Speaker 1: they measure our execution quality, the ability for the market
Speaker 1: maker to improve off of the n b b O
Speaker 1: and to the extent and to the amount we're willing
Speaker 1: to do so, they will send us order flow. Now,
Speaker 1: obviously they don't send their order flow to Citadel or
Speaker 1: two vertuur to Susquehanna. But and they don't do it
Speaker 1: all as one big bucket. Sometimes they do it by
Speaker 1: different names, depending upon a DV, depending upon volume. They
Speaker 1: all have their own unique routing methodologies. But every single
Speaker 1: one of them is based off the the amount that
Speaker 1: the market maker is willing and able to improve the
Speaker 1: national best bid and best offer. Just to give you
Speaker 1: some statistic which is pretty compelling, in two thousand and twenty,
Speaker 1: the five or six of us the market making firms
Speaker 1: in the aggregate provided price improvement, So prices better than
Speaker 1: the n b b O in an aggregate amount of
Speaker 1: three point seven billion dollars. Right, So that means a
Speaker 1: retail investor in general, right, is getting a price that
Speaker 1: is better than what they could get on a national
Speaker 1: securities exchange. Right. And so that's the that's why they
Speaker 1: rout us those orders. Right. Payment for wonder face a
Speaker 1: separate thing. We'll talk about that in a second. But
Speaker 1: two d Odd Brokers are saying, hey, you can provide
Speaker 1: better execution quality than we can get on an exchange.
Speaker 1: And the natural question you're about to ask me is
Speaker 1: why would you like to ask that question? You want
Speaker 1: me to just keep going. I just want to back
Speaker 1: up real quickly. I just want one I got. I
Speaker 1: got on a roll sometimes and I talked forever, so
Speaker 1: I'll try to stop for you. Guys. This is great.
Speaker 1: It's our job to stop you, but this is super helpful.
Speaker 1: I just one. So the NBBO it's purely exchange price
Speaker 1: correct because that's the only the difference between exchange and
Speaker 1: a dark pool. Right. You know, the marketplace is terrible
Speaker 1: at naming things, right, A dark pool sounds like this
Speaker 1: nefarious thing, and also it's a flash trade. I know,
Speaker 1: if I could do my life over again, I would
Speaker 1: have renamed all these things. But putting that aside, virtue
Speaker 1: is named for virtue, right, we try to be virtuous
Speaker 1: to the market, so we at least have a nice name.
Speaker 1: So what a dark pool is? It's actually technically it's
Speaker 1: called an a t S or an alternative trading system,
Speaker 1: the lynchpin of the U S equities market. And indeed,
Speaker 1: you know, the U S economy is competition, right, and
Speaker 1: so a long time ago, back when I was a lawyer,
Speaker 1: if someone said, you know what these exchanges and it
Speaker 1: was really just the New York Stock Exchange until let's
Speaker 1: say the early nineties. They have a monopoly, they're really expensive.
Speaker 1: Bad things go on there. There was you know, alleged
Speaker 1: criminal activity with the specialist. You can google all that.
Speaker 1: So the exchanges weren't all that, let's put it that way, right,
Speaker 1: and they were, you know, it was kind of a
Speaker 1: private boys club, if you will. And so a bunch
Speaker 1: of banks and other broker said, we want to be
Speaker 1: able to create an alternative trading system and a t S.
Speaker 1: So the SEC has REGGAETS and it basically says, if
Speaker 1: you want to be a place where people are sending orders, right,
Speaker 1: as long as you don't have more than five of
Speaker 1: the market in a particular name, you can do that.
Speaker 1: You have to publish your rules. We run to a
Speaker 1: t S is at Virtue. You've got to publish your rules,
Speaker 1: but you cannot display market data. Okay, so it has
Speaker 1: to be quote unquote dark. That's why people call them
Speaker 1: dark pools. So people brokers right can rest orders in
Speaker 1: an A T S with the safety and security that
Speaker 1: they know that that they're not exposing large size to
Speaker 1: the rest of the world. Why don't people like to
Speaker 1: trade on exchanges is because the entire world knows, Like
Speaker 1: you know, I'm an agency broker. If I get in
Speaker 1: order from a large asset manager to buy a hundred
Speaker 1: thousand shares a Tesla and I just post that on
Speaker 1: an exchange. Now the entire world knows that there's a
Speaker 1: giant whale out there that wants to buy a hundred
Speaker 1: thousand shares a tesla. What's going to happen to the market? Right?
Speaker 1: You can imagine people will change the risk that they
Speaker 1: see in that market because they know that there's a
Speaker 1: huge imbalance, right. And so that's one of the reasons
Speaker 1: why investors, broker a smart folks in the marketplace wanted choices,
Speaker 1: and that's why they created these A T s s. Right. So,
Speaker 1: an exchange has public displayed market data, right, it gets
Speaker 1: quoting revenue because of that they make it. They make
Speaker 1: about four or five million dollars a year justin consolidated
Speaker 1: tape revenue. That's one of the benefits to being exchange, right,
Speaker 1: Whereas an a TS is only charging a transaction fee, right,
Speaker 1: and orders etcetera are executed quote unquote in the dark,
Speaker 1: and that's why people call them dark pools. There's nothing
Speaker 1: to various about them. It's just an alternative method. Again,
Speaker 1: always think what what the great thing about our marketplace
Speaker 1: in the US and why it's it's so darn efficient
Speaker 1: and why it's so damn competitive and cheap is because
Speaker 1: you have this competition. So I want to esca follow up.
Speaker 1: You know, all of the I was doing a little
Speaker 1: trying to learn a little bit to prepare for the
Speaker 1: for this discussion. And so I see all of the
Speaker 1: brokerages are the retail brokerages or I guess everyone follows
Speaker 1: the six files, these Form six or six. We're they
Speaker 1: talk about the market makers to whom they're routing orders
Speaker 1: and they helpfully sort of like basically break down their
Speaker 1: market share and so for eat, So for example, robin
Speaker 1: Hood in the last quarter, it looked like almost their
Speaker 1: shares went through Citadel Virtue looks like got a little
Speaker 1: bit under. What determines how a broker allocates its routing
Speaker 1: is it is every trade its own discrete auction of
Speaker 1: and you're all competing for it. There like, how does
Speaker 1: this process work? No, not at all, not at all.
Speaker 1: So the way it works is, as I try to articulate,
Speaker 1: they have a best execution committee, right, and they have
Speaker 1: their routing protocol. Again, it's always based off of how
Speaker 1: much are we willing to improve off of that m
Speaker 1: B B oh so quote unquote price improvement um. And
Speaker 1: so in the beginning of the month. Quarter some brokers
Speaker 1: do it weekly, but it's not daily, and it's certainly
Speaker 1: not by symbol, right, there's just way too many orders
Speaker 1: for every thing to be an individual auction. So they
Speaker 1: said it in the beginning of the week. Let's say
Speaker 1: at the beginning of the month. Every broker's got their
Speaker 1: own rule and they say, okay, in the prior period, right,
Speaker 1: so it's you know, we're now in March. So in February, Virtue, Citadel,
Speaker 1: Susquehanna too, Sigma. I don't know who else is in
Speaker 1: you know, Ubs, Wolverine right there, five or six firms
Speaker 1: we all bashed, we bashed our heads against you know,
Speaker 1: each other, and for you know, every broker's got a
Speaker 1: different way of looking at it. But for the top
Speaker 1: five hundred names that are in the snph. Here's the
Speaker 1: aggrega amount of price improvement. And Citadel came in first place,
Speaker 1: right because they provided forty two points of EQ. It's
Speaker 1: all measured off of the mid of the mid So
Speaker 1: how much are you willing to improve off of the
Speaker 1: midpoint between the bid and the offer? And Virtue came
Speaker 1: in second place, Susquehanna third, two sigma, etcetera. So this therefore,
Speaker 1: in the month of March, right, we're gonna give Citadel
Speaker 1: for Virtue Susquehanna twelve percent, etcetera. During the measurement period,
Speaker 1: whether it's a eeker a month, we're in constant dialogue
Speaker 1: with them. They will say, hey, look, you're doing really
Speaker 1: well in the top five indet names, but you're really
Speaker 1: doing poorly in the bottom thousand names. Can you improve
Speaker 1: your EQ? So they're always, you know, trying to get
Speaker 1: us to frankly, provide more value back to their their clients.
Speaker 1: And if you watch TV, and I'm not going to
Speaker 1: name the network because it's a competing network, there's actually
Speaker 1: one of the really really large brokers. There's two dudes
Speaker 1: sitting having lunch and one guy shows him his little
Speaker 1: iPhone and says, well, you know, look at the execution
Speaker 1: quality I got, and he buys, and he saved twelve
Speaker 1: dollars and ninety three cents, and he pays for the
Speaker 1: grill cheese sandwich at lunch. Right, they must be in
Speaker 1: like not in New York because the grill cheese would
Speaker 1: cost more. But that that's is literally that's what we do, right,
Speaker 1: So think about how important it is that an advertising
Speaker 1: agency for one of the largest retail brokers in the world. Right,
Speaker 1: that's an American institution. I'm not going to name their name.
Speaker 1: You can think of the commercial right, they are spending
Speaker 1: money advertising the word that Citadel, virtue, sus behind, etcetera.
Speaker 1: Do I think about how ingrained that is in the system,
Speaker 1: and then juxtaposed that against the frankly lunacy that people
Speaker 1: were articulating about Robin Hood and Citadel. It's just, you know,
Speaker 1: that's why I watched Late January and my my job
Speaker 1: was like hitting the table and thinking, my god, these
Speaker 1: people have no idea what the hell they're talking about.
Speaker 1: You know, it's such an important part of the ecosystem,
Speaker 1: and it's so ingrained, and it's so valuable that one
Speaker 1: of the largest American financial institutions. You think so much
Speaker 1: of it that it advertised it that this as as
Speaker 1: like a service, right. I apologize for my voice changing there,
Speaker 1: but it's like the the the juxtaposition of the two
Speaker 1: was just so amazing. Here I am watching, you know,
Speaker 1: the anchors on that network who don't have a clue
Speaker 1: what the hell they're talking about. If you follow my
Speaker 1: Twitter account, I actually tweeted one of them and told
Speaker 1: him that, and then he had me on the I
Speaker 1: saw you you tweeted your personal phone number. That seemed
Speaker 1: kind of risky. Well not really, you know, I got
Speaker 1: not and a hide and he was so naive. I'll
Speaker 1: be nice about what he was saying. It was it
Speaker 1: was embarrassing, I thought, and I told him as much. Anyhow,
Speaker 1: so I will get off my soapbox and allow you
Speaker 1: to continue. Well, so why don't we get over to
Speaker 1: the GameStop phenomenon, and maybe just to begin, I'll ask
Speaker 1: a sort of broad question. So how much did the
Speaker 1: shift to a no commission trading model and the sort
Speaker 1: of boom in retail stock trading that we've seen over
Speaker 1: the past year, Like, how much of a difference did
Speaker 1: that make for your business? Yeah? Look, I mean, it
Speaker 1: was huge. I mean, and again thank you for noting
Speaker 1: it really was the zero commission phenomena and that that
Speaker 1: was a long time coming. Right. There was a whole
Speaker 1: bunch of regulatory changes in two thousand five, you know, decimalization, right,
Speaker 1: so spreads narrowed, technological advances, you know, give a lot
Speaker 1: of give a shout out to all of the pioneers
Speaker 1: and guys that started a merry trade and e trade
Speaker 1: in etcetera, etcetera. Um Robin Hood, Uh, you know, was
Speaker 1: the zero commission broker. I believe they started I think
Speaker 1: in two thousand fifteen, and I knew at some point
Speaker 1: the incumbents, obviously you know, Schwab, Fidelity, E Trade, etcetera,
Speaker 1: would have to match that pricing, and they did and
Speaker 1: that happened in November two right. So that was like
Speaker 1: sort of the the Kuda gra of a long period
Speaker 1: of technology and evolution, you know. And then on top
Speaker 1: of that, you know, the pandemic hits right, work from home.
Speaker 1: You know, there's no sports betting, you know what, the Tesla.
Speaker 1: There's a whole bunch of other factors right that led
Speaker 1: into it. It really was a zero commission phenomenon. So
Speaker 1: if you think about retail trading as the percentage of
Speaker 1: the US equities market, it went from called it like
Speaker 1: fifteen percent. Two is high on some days as like,
Speaker 1: So that is a meaningful increase. It's kind of settled
Speaker 1: somewhere between twenty two and of the overall US equity market.
Speaker 1: But this is a very important and as was demonstrated
Speaker 1: in late January, a powerful segment of the marketplace, and
Speaker 1: so it needs to be understood and reckoned with and
Speaker 1: the regulators obviously we'll look at all this, but at
Speaker 1: the end of the day, you've seen a systemic shift
Speaker 1: in the US equity market. I will say, because we're
Speaker 1: a global market maker, this is not unprecedented. You know,
Speaker 1: if you travel over to Japan, where we have we
Speaker 1: do a lot of business. You know, we have a
Speaker 1: partnership with SBI Securities where we do something similar in
Speaker 1: terms of being a retail market maker, and over there,
Speaker 1: you know, retail is a big part of market. You
Speaker 1: know that people have their smartphones and they're trading all
Speaker 1: the time, and not just equities. I mean they're trading
Speaker 1: again futures they trade, you know, the SMP futures, they trade,
Speaker 1: the Russell you know. So this this shift is important
Speaker 1: and systemic, but it's not without global precedent. Can we
Speaker 1: go back you you mentioned the term payment for order flow,
Speaker 1: and it's scary and people don't understand it. It is
Speaker 1: an ominous sounding term andent. But I do think it's
Speaker 1: like one of the things in this whole game Stop
Speaker 1: story that people got super confused about. Why would you
Speaker 1: pay for order flow? What? What is it so value
Speaker 1: about about my five tesla trade on robin note that
Speaker 1: you'd pay for it? Yeah, exactly, We're waiting for your trade,
Speaker 1: just tell me when it's coming. So let let me
Speaker 1: take a step back. So before I mentioned there were
Speaker 1: two hundred odd retail brokers, wealth managers, etcetera. Right, and
Speaker 1: those are our clients, and Citadel's got you know, a
Speaker 1: similar bunch. It's not just US institutions, by the way,
Speaker 1: there's Canadian and European wealth managers. They're sending us orders
Speaker 1: and getting guaranteed execution along the eCos you know, in
Speaker 1: the ecosystem I described to you earlier. So of that
Speaker 1: two hundred eye brokers, there's roughly ten that's say, okay,
Speaker 1: in addition, in addition, that's the key to price improvement.
Speaker 1: We want you to pay us a rebate, okay, and
Speaker 1: so effectively, and that rebate is going to be set.
Speaker 1: There's not an auction right there, not routing flow because
Speaker 1: Citadel is willing to pay a couple of pennies more
Speaker 1: than virt two. It's set and it's in stone. So
Speaker 1: there are some brokers. Let's say give us ten mills, right,
Speaker 1: ten ten cents per d. I don't want to be
Speaker 1: two technical. Others say eighteen per hundred, whatever it is,
Speaker 1: And that goes into our calculation of how much value
Speaker 1: are we willing to provide back to the broker from
Speaker 1: our perspective, from the virtual perspective, I imagine City on
Speaker 1: the other competitors look at it the same way. We're Switzerland.
Speaker 1: There is value to us as the market maker in
Speaker 1: extracting the bidden offer. Really, what we're doing is, you know,
Speaker 1: if Tesla is a nickel wide in the marketplace, we
Speaker 1: think we can narrow that spread, maybe by a halfpenny,
Speaker 1: maybe by a penny. Right, because we're really good, and
Speaker 1: we're really good, We've invested a lot of money in it.
Speaker 1: And because your order and literally the hundreds of thousands
Speaker 1: of other orders that we're getting are smaller in size,
Speaker 1: so they're not going to move the marketplace. Right, they're
Speaker 1: not big institutional orders, and they tend emphasis on the
Speaker 1: tend not to be correlated with the remainder of the marketplace. Right,
Speaker 1: because the theory is, Hey, Joe is a retail investor.
Speaker 1: He's gonna trade five times a day, five times a month,
Speaker 1: whatever it is. He's going to buy his hundred shares.
Speaker 1: He's gonna push his little button. He's gonna want to
Speaker 1: buy a market buy a hundred shares of Tesla at
Speaker 1: the market, and he's gonna hold it for six months,
Speaker 1: a year, three months, and whether he buys it at
Speaker 1: you know, ten, or we're gonna slightly price improvement, Joe
Speaker 1: doesn't really care, but we care a lot. So you're
Speaker 1: not competing with Virtue in Citadel, right. Virtue in Citadel
Speaker 1: have this unique ability to narrow the bid offer spread
Speaker 1: and extract some value. Right. Joe has a very different time,
Speaker 1: you know, a temporal view of the world. Joe's thinking,
Speaker 1: all right, I'm going to hold this thing for a week,
Speaker 1: a month, whatever it is. We're trying to hold it
Speaker 1: literally for you know, if we can ten milliseconds a
Speaker 1: second because it's gonna be thrown into this portfolio that
Speaker 1: we're managing, and we're gonna try to extract that bid offer.
Speaker 1: And really, what the brokers have done, they're smart. They
Speaker 1: realize there's value two smaller non correlated markets, two orders,
Speaker 1: excuse me, and they've gone to the market makers over
Speaker 1: the last thirty years. This is not a new phenomenon.
Speaker 1: Said listen. We know you guys are good, We know
Speaker 1: you guys can make money off this. We know that
Speaker 1: this money means, this value is only there for the
Speaker 1: market makers. It's not there for anybody else. We're not
Speaker 1: taking money from a retail investor, but we the retail brokers,
Speaker 1: we want you to pay profit share some of that
Speaker 1: bid offer back to us, and for the most part,
Speaker 1: we're gonna return that to our clients in the form
Speaker 1: of price improvement the ad I mentioned before right there.
Speaker 1: And in some cases the brokers have made a decision
Speaker 1: which I don't care about, that they're going to take
Speaker 1: that money and they're gonna use it to offset their
Speaker 1: costs of providing their service so that they can provide
Speaker 1: that service back to their clients for zero commission. Right,
Speaker 1: So think about it this way and then I'll stop
Speaker 1: my my diet tribe, which is Joe is a retail
Speaker 1: and Tesla is offered on the market at ten. We're
Speaker 1: willing to say, all right, Joe, we're gonna give it
Speaker 1: to you a nine spot nine nine, so we're actually
Speaker 1: gonna price improve it. So Joe is happy he bought
Speaker 1: it actually at a better price than when he saw
Speaker 1: it in exchange. The reason we're willing to do that
Speaker 1: is because we think we can make maybe there was
Speaker 1: a nickel, we can make maybe half a penny. So
Speaker 1: Joe gets price improvement, virtue makes a little bit of money,
Speaker 1: and Joe pays literally zero. The alternative would be, if
Speaker 1: there's not payment for the flow, Robin Hood's gonna charge
Speaker 1: you four dollars you portrayed. So you bought a hundred
Speaker 1: shares and maybe we made half a penny and you've
Speaker 1: got a penny of price improvement. You're not buying that
Speaker 1: Tesla at ten because you think it's gonna go to
Speaker 1: ten oh one and you're gonna sell it and you're
Speaker 1: gonna make you know, a dollar, right, You're buying it
Speaker 1: a ten because you think it's gonna go to you know,
Speaker 1: thirty and you're gonna make twenty So where the critics
Speaker 1: are just completely asked backwards. Is there there's no value
Speaker 1: that I'm taking out of your pocket. I'm taking value
Speaker 1: out of the marketplace and in fact then profit sharing
Speaker 1: it back to you. It's a win win for everybody.
Speaker 1: The last point I'll make and then I promise i'll
Speaker 1: shut up, is And the reason I got so piste
Speaker 1: off at Sorkin was because he sits there every time
Speaker 1: he says, well, it's like Facebook, there's an information avenge.
Speaker 1: We're getting client information, complete and utter bullshit. Am I
Speaker 1: allowed to say that on this It's complete, utter bullshit.
Speaker 1: Sorkin is wrong about that. I told him that. I'll
Speaker 1: say it publicly, round and round again. This is not Facebook.
Speaker 1: If anything. You know, there's six or seven firms competing.
Speaker 1: Every single one of the orders we get, we get
Speaker 1: millions of them per day, are anonymous. We have no
Speaker 1: idea if it's Joe Sally or if it's some institution
Speaker 1: behind it. Right, So, the notion that there's some big,
Speaker 1: nefarious Facebook thing going on here is just you know,
Speaker 1: a concoction of people that spend way too much time
Speaker 1: looking at Silicon Valley companies. This is completely opposite. If anything,
Speaker 1: the information asymmetry is the opposite way. We have no
Speaker 1: idea if everybody's going to send us a hunt with
Speaker 1: chairs to buy Tesla at the same time, and we're
Speaker 1: gonna get our faces ripped off, and we have no
Speaker 1: way of knowing that. We don't have a clue. So
Speaker 1: this is something I actually wanted to ask you. So
Speaker 1: you mentioned this idea that retail orders tend to be
Speaker 1: uncorrelated with the wider market, and that makes them attractive
Speaker 1: for various reasons. So what happens when you do get
Speaker 1: a situation like game stop where suddenly everyone is piling
Speaker 1: in in one direction, we lose millions of dollars. I
Speaker 1: sit in my office and I'm sitting there grabbing the
Speaker 1: you know, my table, and my knuckles are turning red
Speaker 1: on the on whatever it was, January, whatever it was,
Speaker 1: I forgot that day. When the market rips in one
Speaker 1: direction and there's limit up, limit down. I mean, it
Speaker 1: doesn't always happen. Sometimes we get lucky because we're not
Speaker 1: flat at all, right. We can be long or short,
Speaker 1: all right, So sometimes we get lucky. More often than not,
Speaker 1: you do not get lucky and you get your faces
Speaker 1: ripped off and we lose millions of dollars. Now, uh,
Speaker 1: you know that's why we trade eight thousand names. That's
Speaker 1: why we have a big firm that does a lot
Speaker 1: of other things. This business is not profitable every day
Speaker 1: retail market making. It's not the critics think we just
Speaker 1: sit there and we collect the spread between Joe and
Speaker 1: Sally and we collect pennies like we're a toll toll bridge.
Speaker 1: If that was the case, then literally dozens of other
Speaker 1: institutions would come in. When industry critics say, oh, this
Speaker 1: is an easy business. You know what I say, compete, compete,
Speaker 1: there's no barriered entry here. Get yourself. You know, some
Speaker 1: investors spend hundreds of millions of dollars in technology, like
Speaker 1: we have developed the relationships and compete. This is a
Speaker 1: very sharp elbowed, difficult business. And when the market rips
Speaker 1: in one direction in a particular name, more often than not,
Speaker 1: we lose money. And there are days where I sit
Speaker 1: in my office and we can be down significant eight
Speaker 1: figure amounts. That's like tens of millions of dollars right
Speaker 1: for time periods. More often than not, it reverts, and
Speaker 1: we've learned over the years, and this business predates me
Speaker 1: and Virtue because we bought it from a firm called
Speaker 1: Night Capital that over twenty years, right, it tends to
Speaker 1: make more money than not. But it is not an
Speaker 1: easy business and the market maker has zero, zero informational advantage.
Speaker 1: That's the thing that really pissed me off about when
Speaker 1: Sorkin was talking, because he made it out like there
Speaker 1: was some informational asymmetry for the market maker, and it's
Speaker 1: exact exactly the opposite. We have no clue when the
Speaker 1: Redded Army is going to strike. How the how would
Speaker 1: we know? But on the other hand, eventually at least
Speaker 1: robin Hood and some of the other online brokerages did
Speaker 1: start to curb trading in Game Stop. So setting aside
Speaker 1: the informational asymmetry that gave rise to concerns, and as
Speaker 1: you just said, when you have extreme and extreme weird
Speaker 1: situations like in game Stub, you start to lose money
Speaker 1: and then suddenly, you know, the the traded curbs kick in.
Speaker 1: So doesn't that invite questions about, oh, well, we're these
Speaker 1: curbs put in plays because you were losing money? Sure
Speaker 1: of course. Now I mean, look overall, we're making money
Speaker 1: during that time period, right, and we we didn't have
Speaker 1: any conversations with Robin, who had ordered citadel Ken Griffin
Speaker 1: is a once in a lifetime you know, a business builder, entrepreneur.
Speaker 1: He's he's extremely ethical. Right, There's not a chance in
Speaker 1: the world he would risk his billions dollar empire, you know,
Speaker 1: to have some kind of conversation with with Robin. I
Speaker 1: knew immediately immediately. I don't want to like sound like
Speaker 1: the guy. I mean, we are a self clearing broker dealer.
Speaker 1: We know the folks of the DTC very well. We
Speaker 1: know how the margin rules work. I understand the plumbing
Speaker 1: of Wall Street, so I knew immediately what their issue
Speaker 1: was and that they had had a huge margin call.
Speaker 1: Could the public relations and the explanation of that been better, Yeah,
Speaker 1: of course. I'm sure if Lad could go back and
Speaker 1: redo his life, and he's an incredibly talented guy, he
Speaker 1: probably would have, you know, been more direct or more
Speaker 1: a little more transparent. But you know, it's not an
Speaker 1: easy thing to explain how margining works in this country.
Speaker 1: I'm happy to do it. I'll put you guys to sleep.
Speaker 1: I know it very well because I started this firm
Speaker 1: and it was my money making the margin calls, right,
Speaker 1: So when it's your own money, you tend to really
Speaker 1: know the rules pretty well. But they got one sided
Speaker 1: game stop because that's where their clients were buying or selling.
Speaker 1: It's an enormously volatile security, and so the rules of
Speaker 1: the DTC technically the n SCC are that the variation
Speaker 1: margins of the variation at risk of our margin if
Speaker 1: you will, for that name, is going to be. So
Speaker 1: when they had clients literally buying billions of dollars, right,
Speaker 1: they're gonna get margin, and the rules do not allow
Speaker 1: you to use customer funds to meet that margin call. Right.
Speaker 1: So this was literally, as he said, a five or
Speaker 1: six sigma once in a generation kind of event that happened. Really,
Speaker 1: it was the rules of Wall Street that really slowed
Speaker 1: this thing down. So the system worked exceptionally well. We
Speaker 1: were in constant communication with the n s c C
Speaker 1: because we wanted to make sure that we could trade
Speaker 1: with Robin Hood. Right, there are a counterparty of ours,
Speaker 1: we take risk, and so the n SCC did a
Speaker 1: brilliant job in risk managing what was otherwise the situation
Speaker 1: that was, you know, getting out of control. Right. They
Speaker 1: didn't do it for any nefarious reason other than to
Speaker 1: mitigate risk in the system, because you had a broker
Speaker 1: that had gotten a little over at ski tips. Right.
Speaker 1: Once they did that, obviously, Robin Hood raised an unbelievable
Speaker 1: amount of money. So there's some really smart people that
Speaker 1: believe in the business model. I I applaud that, and
Speaker 1: Robin Hood did the only thing they could do, which
Speaker 1: was de risk their portfolio and reduced their margin. I
Speaker 1: would have done the exact same thing where I in
Speaker 1: the in their situation, I would have done a much
Speaker 1: much better job, I would think explaining it because I
Speaker 1: know these rules exceptionally well. So since we're on the
Speaker 1: topic of you know what people think might be nefarious behavior.
Speaker 1: You talked about this idea of information a symmetry. One
Speaker 1: other criticism that I've seen, or that people sometimes bring up,
Speaker 1: is the idea that retail trades are somehow treated differently
Speaker 1: to large institutional trades. Can you talk a little bit
Speaker 1: about that, Like, what does sitution actually look like? They are?
Speaker 1: They get much better, they get much better execution. That's
Speaker 1: the irony of this thing, right, we we have both
Speaker 1: sides of the business. Okay, So I'll give you an example.
Speaker 1: I'll use a couple of names. You know, these are
Speaker 1: public companies, right or they're large, So Fidelity and Vanguard
Speaker 1: our giant companies. Right. They both have retail arms and
Speaker 1: they have institutional arms. Right. Fidelity has got an asset
Speaker 1: management business, got a retail business. Vanguards the same. They're
Speaker 1: both great clients of the of ours. I love them dearly.
Speaker 1: We have fantastic relationships with both them. I literally have
Speaker 1: been to visit both of them, and the retail and
Speaker 1: the institutional business our clients. And they're in different buildings, right,
Speaker 1: And I literally we get orders from the institutional side,
Speaker 1: and they're paying us, right, something less than a penny
Speaker 1: to share, but more than zero. They can't tell you
Speaker 1: exactly how much to route orders of Tesla, and the
Speaker 1: notional size of that order, and the way we trade
Speaker 1: it is really not much different than what we do
Speaker 1: in the retail outside. On the retail side, we get
Speaker 1: paid and and and let me go back to institutional order.
Speaker 1: We're not We're measured not whether we can provide them
Speaker 1: the n B b OH, but whether over the course
Speaker 1: of a day, what the impact of their order is
Speaker 1: on the marketplace. So as long as we beat a
Speaker 1: certain benchmark, right, they're happy they haven't moved the market
Speaker 1: too much with their order. Right. So that's kind of
Speaker 1: institutional trading. One on one. We're getting paid a commission.
Speaker 1: We're acting as an agent. We use our order routing
Speaker 1: skills and our financial technology in order to route those
Speaker 1: orders uh as adroitly as we possibly can to minimize
Speaker 1: impact to not move the n b B out too much.
Speaker 1: Right now, you go to the retail side, and what
Speaker 1: the federal securities laws say is that every order that
Speaker 1: is retail attested from a broker that is less than
Speaker 1: nine listen to this, nine thou shares is eligible for
Speaker 1: those six or six reports. So literally, I can get
Speaker 1: a thousand share order of Tesla. I don't know what
Speaker 1: the hell Tesla is at right now. It's let's say
Speaker 1: it's seven hundred, right, So can do the math. That's
Speaker 1: a large order, right. That order comes into the retail
Speaker 1: through the retail pipes that we have, and as soon
Speaker 1: as it hits our environment, regardless of what the n
Speaker 1: b B O is in terms of size, that hundred
Speaker 1: thousand share order or five thousand share order, it gets
Speaker 1: measured and we price it off of the n b BA.
Speaker 1: So even if there's only a hundred shares right at
Speaker 1: the inside, I'm being very technical right now, where not
Speaker 1: only are we price improving that, we're size improving it.
Speaker 1: And in some instances, like you know, for robin Hood,
Speaker 1: we're actually paying for the privilege of doing that. And
Speaker 1: there's some other brokers that take payment forward to flow
Speaker 1: that are very large. Right, So think about that juxtaposition.
Speaker 1: You've got a retail tested order that is, you know,
Speaker 1: could be hundreds of thousands of dollars that's getting guaranteed
Speaker 1: execution at or better than what they could get in exchange,
Speaker 1: and and sometimes they're getting price improvement and the brokers
Speaker 1: getting paid for it, whereas an institutional order we're getting
Speaker 1: aid by the broker. Now, look, I'm not screaming poverty.
Speaker 1: For the most part, the orders aren't that size, right.
Speaker 1: But if you if you talk to any institutional investor
Speaker 1: that is I would say balanced and even killed about
Speaker 1: how they explain themselves, right, they will say that retail
Speaker 1: investors have an amazing deal in this country. They would
Speaker 1: love to be able to do that. Their jobs would
Speaker 1: be so much easier. The institutional traders all they would
Speaker 1: be doing would say here you go, virtue sit it
Speaker 1: will take these orders it Unfortunately, it doesn't work that way.
Speaker 1: So the ecosystem in the United States, where you can
Speaker 1: get literally for no money, a guaranteed fill of a
Speaker 1: price that you see on your smartphone or better, is
Speaker 1: by far the best ecosystem in the world. Where in
Speaker 1: every marketplace in Europe and in Asia, and there's not
Speaker 1: a market structure that is as beneficial to retail investors
Speaker 1: as the United States. That's why I get so like
Speaker 1: frustrated when I see you know, folks on on that
Speaker 1: other network, you know, sitting there like mixing metaphors and
Speaker 1: and cast gating, you know, an ecosystem that they have
Speaker 1: no clue about. They don't have it, they don't even understand.
Speaker 1: I mean Stork and sitting there talking about his grandmother.
Speaker 1: And I went on TV and said, yeah, your grandmother
Speaker 1: can hold up her smartphone, and then he talked about
Speaker 1: his grandmother, not me, And for no money can get
Speaker 1: a price that's better than what t ro price can get.
Speaker 1: What the hell are you complaining about. I want to
Speaker 1: go back to the competition that you guys are in
Speaker 1: with the Citadels of the world or the two sigmas
Speaker 1: and so forth. So what are the determinants of who
Speaker 1: can deliver better price? So I assume like technology is
Speaker 1: a factor, your capital probably presumably, let's do I don't know,
Speaker 1: take risks here and there be willing to extend a
Speaker 1: better offer speed, Like what do you guys uh competing on?
Speaker 1: And why is the market such that one firm doesn't
Speaker 1: just swallow the whole thing by building up sur multiple edge?
Speaker 1: Why is it always competition? Yeah? What I what I
Speaker 1: would say is it's not in The brokers don't want
Speaker 1: there to be a monopoly, right, So there's sort of
Speaker 1: like a natural cap if you will, that any one
Speaker 1: of us has over market share. If you look at
Speaker 1: if you go through all those six or six reports, Yeah,
Speaker 1: I mean maybe with some with some small exceptions, you're
Speaker 1: never gonna see anybody really north of certainly when it
Speaker 1: comes to marketable orders maybe non marketable limit orders, it
Speaker 1: might be higher. But so the brokers naturally right, What
Speaker 1: would you do if you needed vendors, right, and you
Speaker 1: could have people bash their heads together, You'd like to
Speaker 1: keep two, three, and sometimes four or five of us
Speaker 1: in competition. You want to give us enough that we
Speaker 1: can be profitable, right, and we can make the investments
Speaker 1: in technology, and I'll come back to why we make money.
Speaker 1: But you don't want to be you know, dependent on
Speaker 1: a single provider, right, So they want competition. So that's
Speaker 1: why when analysts research analyst asked me about market share,
Speaker 1: I said, well, it's really overcooked because there's a natural cap. Really,
Speaker 1: the way we make money is look, look. And again
Speaker 1: this predated virtues. So there was a firm called Night
Speaker 1: Capital that actually kind of helped create this ecosystem. It
Speaker 1: was called night because it was the Knights of the
Speaker 1: round Table. They got all the retail brokers around a
Speaker 1: table and said, hey, you guys are mad as hell
Speaker 1: at the New York Stock Exchange. Essentially, why don't you
Speaker 1: send your orders to us? And that was you know,
Speaker 1: the genius of the pioneers of of Night Capital. And so,
Speaker 1: starting you know, twenty years ago, they built a simulation
Speaker 1: environment of research environment obviously that we now run. That
Speaker 1: cost us a lot of money. We've got very sophisticated
Speaker 1: algorithms and and strategies right that that can internalize that
Speaker 1: order flow and hopefully more often than not make money
Speaker 1: on it. We've got you know, dozens and dozens of
Speaker 1: really really smart men and women you know, that have
Speaker 1: PhD these and things that I vaguely understand. I'm a
Speaker 1: liberal arts guy, right, so this is not my area
Speaker 1: of expertise. That literally spent you know, thousands and thousands
Speaker 1: of people hours every year trying to be better at
Speaker 1: UM And you know what I what I'm good at,
Speaker 1: what Virtue is good at is we run a very
Speaker 1: very lean, efficient environment. So yeah, we trade an awful lot,
Speaker 1: but we're not a big bank, right, So we have
Speaker 1: less than a thousand employees and we have a very
Speaker 1: large scale business that's in over two hundred and fifty marketplaces.
Speaker 1: So what's our competitive advantage. It's we've got great relationships.
Speaker 1: We provide great service to those retail brokers, right, because
Speaker 1: it's a guaranteed execution. If we f up and the
Speaker 1: market data is wrong, or if we have like you know,
Speaker 1: the power goes out in our data center something like that,
Speaker 1: it's still our execution. We got it, we eat it, right,
Speaker 1: So if we have a mistake, we eat it. Exchanges
Speaker 1: can't do that. So it's a service we're providing. And
Speaker 1: as I said, we've been doing this for a long
Speaker 1: time and invested a lot of money, and we do
Speaker 1: it really really efficiently. So if you think of about
Speaker 1: like what's the margin on this, like the margin on
Speaker 1: an individual basis, like on a single name is literally
Speaker 1: single digits and subpenny And why are we so profitable
Speaker 1: and why is this business work? Again? It comes back
Speaker 1: to scale, right. We we trade twenty five thousand different
Speaker 1: financial instruments and if we you know, we try to
Speaker 1: make a couple hundred bucks, a thousand bucks on them,
Speaker 1: that kind of thing, and it adds up over the
Speaker 1: course of a day. And this is a very you know,
Speaker 1: scale business, which is why it's very difficult. You know,
Speaker 1: you didn't notice, uh in the names of competitors Goldman
Speaker 1: Sachs or JP Morgan or Barkley's or Morgan Stanley, Right,
Speaker 1: they all used to do this business right there, but
Speaker 1: they had to get out of it. If you go
Speaker 1: look at the list like UBS is in the business,
Speaker 1: they're probably like number four or five, and they're kind of,
Speaker 1: you know, not as competitive frankly, because it's really hard
Speaker 1: to do this business. If you've got a huge global institution,
Speaker 1: you've gotta feed. You know, someday I'll invite you to
Speaker 1: my office when the pandemics over. It's not that pretty right.
Speaker 1: We don't spend money on the on you know that
Speaker 1: kind of thing. We have to spend money on the
Speaker 1: research environment and the simulation environment and and so that's
Speaker 1: why this business works for these kinds of firms. And
Speaker 1: Citadel is by far, you know, our biggest competitor, and
Speaker 1: they're fantastic at it. And you know, the notion that somehow,
Speaker 1: you know, they were mixed up in this robin hood,
Speaker 1: you know, a conspiracy theory, was just beyond comical to me.
Speaker 1: So I mentioned in the intro that one of the
Speaker 1: big things about game Stop and robin hood was that
Speaker 1: it kind of thrust this issue into the spotlight, which
Speaker 1: you know can be a bad thing. And we did
Speaker 1: see politicians and d C take a sudden interest in
Speaker 1: payment for order flow. What's your read on how they
Speaker 1: are thinking about it at the moment and would you
Speaker 1: expect them to crack down in some way on the business.
Speaker 1: And actually, can I just add on, so in the
Speaker 1: UK they don't have payment for order flow um as
Speaker 1: far as I can member, I think they banned it.
Speaker 1: So why has the US gone ahead with this? But
Speaker 1: other jurisdictions have you know, there's something about the model
Speaker 1: that has turned them off. So why is that? Yeah,
Speaker 1: what I would say is, look, I mean this is
Speaker 1: not like some new Obviously people acted like as this
Speaker 1: there was you know, a new situation. Right, this has
Speaker 1: been you know, this structure, this ecosystem has been going
Speaker 1: on for thirty plus years. To answer the first part
Speaker 1: of your question, which is, you know, the SEC has
Speaker 1: looked at this five or six times, the whole notion
Speaker 1: of wholesaling and and payment for order flower rebates, The
Speaker 1: SEC and Finraum are always examining the best execution statistics
Speaker 1: and obligations of all the retail brokers from Robin Hood
Speaker 1: to you know, z Echo Trade, and of all the
Speaker 1: market makers from Virtue, Cita, etcetera. Right, So this is
Speaker 1: not like an area that has not been looked at
Speaker 1: by regulators because of some of the hysteria I'll say
Speaker 1: it around down these meme stocks and kind of the
Speaker 1: situation it ended up in Congress, and I will charitably
Speaker 1: say there was a lot of misinformation at the hearing,
Speaker 1: and I felt kind of bad for Ken and for
Speaker 1: Vlyde and for others who were basically you know, you
Speaker 1: know they were pinionis for five and a half hours,
Speaker 1: and I know how Washington works. It's great. I have
Speaker 1: spoken to over half a dozen Congress folks and more
Speaker 1: of their staff to try to explain, Hey, this is
Speaker 1: when you peel back the hysteria and peel back the
Speaker 1: onion and look at it. It really isn't that bad.
Speaker 1: And actually, if you're a progressive, a Democrat, whatever you
Speaker 1: want to say, you should be thrilled with this ecosystem
Speaker 1: because the three hundred five hundred dollar broker that used
Speaker 1: to rip you off by making you pay you know,
Speaker 1: an eighth or cents spread doesn't exist anymore. So the
Speaker 1: old Wall Street way of like really taking it to
Speaker 1: the real retail investor has gone away. The retail investor
Speaker 1: is totally empowered. To use an overused word, there's been
Speaker 1: democratization now in Europe. Right, everything isn't as it's as
Speaker 1: it's seems. Right. What the retail brokers do in Europe,
Speaker 1: which I think is actually worked worse for the investors, right,
Speaker 1: of course I'm biased, but worse with this, they just
Speaker 1: mark up the trade so you get a worse price.
Speaker 1: You get a worse price, so the bid offer that
Speaker 1: we otherwise could extract on our own right. The retail
Speaker 1: brokers effectively are charging more back to their clients, so
Speaker 1: you're getting a worse price. So which environment are you're
Speaker 1: worse in? Would you rather pay zero commission and get
Speaker 1: the n b BO or better or I know there's
Speaker 1: a zero you know commission broker or brokers in Europe?
Speaker 1: Would you rather get that or get a price that is,
Speaker 1: instead of Joe's ten dollars for Tesla, Joe's now paying
Speaker 1: you know, ten oh one or ten oh two. I
Speaker 1: would argue, you know, you know, Joe's getting a worst
Speaker 1: deal in Europe than he is in the United States.
Speaker 1: So you know, to me, it's just you know, regular
Speaker 1: regulators looking at this and kind of you know, in
Speaker 1: a knee jerk reaction not acting what in the best
Speaker 1: entrance of retail broke So long and short of it,
Speaker 1: I think this will get thrown back to the SEC.
Speaker 1: We have a new chairman who is a brilliant guy
Speaker 1: who I've worked with a little bit when he was
Speaker 1: at the CFTC. There's some staff folks there that have
Speaker 1: been there for a long time that know this ecosystem
Speaker 1: exceptionally well. I think they'll look at the data, and
Speaker 1: I'm very optimistic they will conclude that this all makes sense.
Speaker 1: Wholesaling for sure makes sense. I think they will look
Speaker 1: at payment for word flow or rebates and say, maybe
Speaker 1: we need more transparency and disclosure around it, right, so
Speaker 1: clients know. But at the end of the day, if
Speaker 1: you don't want to trade with a broker that uses
Speaker 1: that does payment for water flow, then open up a
Speaker 1: new account, you know, go to Fidelity. They don't charge
Speaker 1: payment for word flow and they have good prices. So
Speaker 1: at the end of the day, it's all about choices.
Speaker 1: I don't understand this hysteria, particularly from those that are
Speaker 1: on the left of the political spectrum, because you think
Speaker 1: it actually would fit in nicely with the whole notion
Speaker 1: of a progressive that wants to empower the little guy.
Speaker 1: The little is unbelievably empowered in this country, and yet
Speaker 1: people look at the ecosystem like somehow there's something the
Speaker 1: fairies going on. So there's always questions of power when
Speaker 1: it comes to I mean, especially when you bring politics
Speaker 1: into it, and there's like who has the power at
Speaker 1: any given moment within existing market structure. And you mentioned
Speaker 1: that the retail brokerages that are your counterparties. They want
Speaker 1: to maintain some leverage, so they'll never give one of
Speaker 1: you guys too high market share of their flow because
Speaker 1: they want to pit you against each other. I want
Speaker 1: to go back to something you mentioned very early in
Speaker 1: the conversation, and that is the power that the exchanges
Speaker 1: have over data and the data they sell. And I
Speaker 1: know you said you're a backer of the members exchange
Speaker 1: to one of the new like whatever eighteen stock markets
Speaker 1: there are talk to us about that power over data
Speaker 1: because I'm my understanding is that that exchange wants to
Speaker 1: sort of disrupt that a little bit. And how do
Speaker 1: you see that, uh, that aspect of the market potentially changing. Yeah,
Speaker 1: I mean this was if go around and Google I
Speaker 1: got you know, I was pretty vocal about this. I
Speaker 1: don't know, five six years ago, I can't exactly remember,
Speaker 1: because I got annoyed that you had a duopoly effectively.
Speaker 1: You know, they had three large exchange groups and between
Speaker 1: what is called the the SIP with a consolidated feed. Right,
Speaker 1: that's roughly five million dollars of quoting revenue that we
Speaker 1: all pay that gets disseminated to those exchanges, right, and
Speaker 1: then on top of that, the exchange is charged for
Speaker 1: what they call a private data feed, right, which we
Speaker 1: obviously have to buy because we're a low latency market
Speaker 1: making firm. And then on top of that, they charge
Speaker 1: you for physical connectivity. So I actually went to the
Speaker 1: sec there's a article about this, when I brought like
Speaker 1: a cable that I had bought on Amazon that we
Speaker 1: paid a hundred and seventy nine dollars for, right, literally
Speaker 1: a physical Ethernet cable that connected our server to the
Speaker 1: exchange server, and NASDAC was charging us and being a
Speaker 1: little hyperbolic, but really not that much. They were charging
Speaker 1: us about a half a million dollars a year for
Speaker 1: that because there was a monthly charge for quote unquote
Speaker 1: connect ativity. And it literally was just an Ethernet cable
Speaker 1: that you could buy. So I got Piste off and said, okay,
Speaker 1: you know, uh, physical connectivity and market data are elements
Speaker 1: of an exchange and exchange for your license from the government, right,
Speaker 1: which gets you that market data fee that I mentioned,
Speaker 1: the SIP revenue and everything like that, and gives you immunity. Right,
Speaker 1: there's a limited liability and the securities laws, you know,
Speaker 1: you need to have the SEC approved not only just
Speaker 1: your order types, but your market data fees, your connectivities fees.
Speaker 1: It's all part of the quote unquote facilities of the exchange.
Speaker 1: You said you wanted wank, I'm giving you full on work.
Speaker 1: That's a define term in the Securities Exchange Act. The
Speaker 1: nine four used to be a partner Paul Wise. I
Speaker 1: researched this stuff, myself, read all about it. So I
Speaker 1: went to the SEC and created a star, put in
Speaker 1: a comment letter and said, you know what, the exchanges
Speaker 1: have been getting away with this for a long time.
Speaker 1: This should be regulated, etcetera, etcetera. The politics of the
Speaker 1: moment were good because Jay Clayton and bred Redfern, who
Speaker 1: were the the chairman and the head of trading markets
Speaker 1: at the time, kind of had a similar view of
Speaker 1: the world as I did, you know, on his way
Speaker 1: out the door, Clayton and the commissioners. You know, but
Speaker 1: I think it was a five zero vote and nothing
Speaker 1: in Washington happens unanimously anymore. Kind of agreed with the
Speaker 1: argument that I was starting to make a virtue was
Speaker 1: starting to make five years ago, that those items needed
Speaker 1: to be uh, they need to be a cost benefit analysis, right,
Speaker 1: you couldn't just every year keep charging us more and
Speaker 1: more and more without any cost benefit. Because it was
Speaker 1: part of the quote unquote facilities of a national securities
Speaker 1: exchange that is now in litigation. Because my friends at
Speaker 1: the exchanges, who I get along great with, by the way,
Speaker 1: we're their biggest customers, they kind of have to be
Speaker 1: nice to me. They sued the sec to enjoy enforcement
Speaker 1: if you will, that regulation. So that'll be in litigation
Speaker 1: in the d C circuit probably for the next you know,
Speaker 1: five years or so, given the you know, the amount
Speaker 1: of money here at stakes. So there's a and that
Speaker 1: that's a continuing kind of kabuki dance between the regulators SYTHEMA,
Speaker 1: which is the you know, the banks and the broke
Speaker 1: is we're a member of SIFMA and the exchanges. This
Speaker 1: is nothing that they've been fighting over who controls that
Speaker 1: data and who can charge for it, because if you
Speaker 1: think about it, I'm creating the data, right, you know,
Speaker 1: to get back to Facebook virtue sending literally hundreds and
Speaker 1: hundreds and billions of bids and offers every day, that's
Speaker 1: like important value of information the exchanges. I'll be a
Speaker 1: schmuck now, I'll say all they do is they take it,
Speaker 1: repackage it kind of in a crappier format, and then
Speaker 1: sell it back to us right along, let's sit it
Speaker 1: another information at a premium price. So that's what really
Speaker 1: pissed me off. That in the cable really kind of
Speaker 1: pissed me off. You're designated market maker for the bitcoin
Speaker 1: et F that exists in Canada. It just got started.
Speaker 1: It's already from what I understand, like a huge hit
Speaker 1: in Canada in terms of like how much money it's
Speaker 1: taken in. We might get one at some point in
Speaker 1: the in the U S. What have you learned about
Speaker 1: that business? Like? How big and how interesting is that
Speaker 1: whole space? Uh? For you guys right now? Yeah. I mean,
Speaker 1: for the record, I'm not like an expert in crypto,
Speaker 1: a goodcoin or whatever it was. I'm a market maker
Speaker 1: and so my determination to get into it was okay.
Speaker 1: When I saw that it was going to be recognized
Speaker 1: and regularized if you will buy a regulator, we think
Speaker 1: the world of right, We're a market maker up in
Speaker 1: kind of big time. And so when I Rock said
Speaker 1: that they could do this, that's the sec up there,
Speaker 1: I was like, you know, done virtues all over this
Speaker 1: because this plays right into our wheelhouse. Right, it's a
Speaker 1: in e t F with the underlying basket is a
Speaker 1: different asset class, right, That's what we're good at, and
Speaker 1: it's and there's also a future on the CME. So
Speaker 1: there's various products we can we can move back and forth.
Speaker 1: And so I think as cryptocurrencies like bitcoined get further
Speaker 1: regularized and regulated, if you will end institutions like e
Speaker 1: t F issuers the u S securities market, future houses
Speaker 1: like the CME recognize that there's that this is a
Speaker 1: valuable asset class and include them in products right that
Speaker 1: represent the underlying coining. You're going to see an explosion
Speaker 1: of interest because then institutions get more comfortable. Right, it's
Speaker 1: no longer the wild west of you know, a hundred
Speaker 1: venues ninety eight of which you haven't heard where you know,
Speaker 1: we trade on coin base and Gemini because we've done
Speaker 1: our diligence on them and there's no central clearing there, right,
Speaker 1: So you're taking counterparty risk against those institutions. And so
Speaker 1: if it's you know, bitcoin venue you've never heard of,
Speaker 1: add some you know country far far away that doesn't
Speaker 1: really fit our our risk parameters, right, We're not We're
Speaker 1: not a hedge fund, we're not day traders, right. So
Speaker 1: as it becomes more i'll say systematized, you're gonna need
Speaker 1: market making firms like Virtue to you know, provide it
Speaker 1: spread between the coin the future and the e t F.
Speaker 1: I'm hopeful that in this new administration you'll see the
Speaker 1: SEC approven in the United States as well, and we'll
Speaker 1: be a big market maker in those. A lot of
Speaker 1: people think this is going to be the year you
Speaker 1: think it could be. I think it will be. Yeah,
Speaker 1: I think there's just too much know when you see
Speaker 1: it on TV and the price of it, there's too
Speaker 1: much mainstreaming of it, and when the institutions start buying it,
Speaker 1: and then on top of that, you know, we've got
Speaker 1: a lot of retail clients that have come to us
Speaker 1: and said, hey, we want to make this available to
Speaker 1: are a high high networks. Will you provide a two
Speaker 1: sided price ind it. So when that happens, when names
Speaker 1: you you know of and you can read the articles,
Speaker 1: want to make it available to their high networks, then
Speaker 1: it's becoming more mainstream. And that's when obviously we need
Speaker 1: to be there as a liquidity provider. So since Joe
Speaker 1: brought up something slightly different to payment for order flow,
Speaker 1: I have one more question. Um, you mentioned the administration there,
Speaker 1: and of course one of the big proposals from the
Speaker 1: Democrats is this idea of a financial transaction tax. How
Speaker 1: much would that affect your business? You're really trying to
Speaker 1: get me in trouble and say something really colossally stupid
Speaker 1: and offensive about the administration, aren't you. I want to
Speaker 1: hear your voice go high. I guess yeah, you want
Speaker 1: to hear my voice go high. Okay, So there's probably nothing,
Speaker 1: uh more inane than a financial transit action tax. I
Speaker 1: have studied this backwards and forwards. I read about the
Speaker 1: Swedish transaction tax of where on Friday they closed at
Speaker 1: Reutina's market. On Monday it moved to London. Uh. What
Speaker 1: I have always said is liquidity is like water. It
Speaker 1: finds its level. So if if the folks in Washington
Speaker 1: see fit to an act of financial transaction tax, and
Speaker 1: I don't think they will because Chuck Schumer is in
Speaker 1: my view of the smartest man in the Senate, and
Speaker 1: he happens the majority leader. Smart thing. Yeah, and uh,
Speaker 1: he happens to represent New York. He happens to understand
Speaker 1: that Wall Street and and Manhattan depend on the financial
Speaker 1: services market, and at financial transaction tax, it wouldn't just
Speaker 1: impact virtue, right, it would reduce volumes, the spreads would widen,
Speaker 1: and Mr and Mrs four oh one k would under
Speaker 1: paying the price, and the pension plans would pay the price.
Speaker 1: So when I see, like you know, unions, public service
Speaker 1: unions advocating financial for a financial transaction tax, I say
Speaker 1: to myself, they've either been severely misled by some Washington
Speaker 1: hack that's trying to raise money, or they just don't
Speaker 1: understand how markets work, because that's just a friction in
Speaker 1: the market and what happens to the market makers and
Speaker 1: to the financial communities. We pass that cost on, right,
Speaker 1: We're not gonna go out of business and make markets,
Speaker 1: and you're gonna still need a market maker. So we
Speaker 1: would just widen out and volumes with decline, the exchanges
Speaker 1: would be impacted, and ultimately you and I in our
Speaker 1: four oh one ks and our pension plans would pay
Speaker 1: that price. So as a policy matter, it is a
Speaker 1: S and I. As a practical matter, it has not
Speaker 1: worked in any jurisdiction the world where it's ever been
Speaker 1: proposed and implemented, and if it ends up happy the
Speaker 1: United States, you know folks up in Canada, Bermuda, Switzerland,
Speaker 1: the UK, Singapore, they will light up alternative exchanges and
Speaker 1: all of the U S secreers will just trade on
Speaker 1: CFD over there, and the Treasury will be deeply disappointed
Speaker 1: that they won't collect bub Kiss. How's that? That's pretty good?
Speaker 1: Your voice cone higher, But I'll I'll accept it. I
Speaker 1: can't say Bob. I can't say bubb Kiss as a soprano.
Speaker 1: It does not work. It doesn't work. That doesn't work.
Speaker 1: It doesn't work. Bubb Kiss is more of a baritone. Yes, Oh, Doug,
Speaker 1: thank you so much for coming on all thoughts. That
Speaker 1: was great. Thank you so much, guys, that was great, dog,
Speaker 1: Thank you, I appreciate it. Cheers. Nice to meet you, so, Joe.
Speaker 1: I enjoyed that conversation. Um, it's nice to talk to Doug,
Speaker 1: and clearly he feels very passionately about a lot of
Speaker 1: these topics. One thing I was thinking is just how
Speaker 1: much different the conversation would be right now had people
Speaker 1: decided not to name dark pools dark pools or to name,
Speaker 1: you know, payment for order flow, payment for order flow,
Speaker 1: like imagine if you had a much less evocative name. Yeah,
Speaker 1: all of it very evocative, and like, you know, I
Speaker 1: think like it was you know, he talked about his
Speaker 1: dispute with a sworking and just this whole idea. I mean,
Speaker 1: I think the dominant storyline that a lot or at
Speaker 1: least a lot of people came away with their the
Speaker 1: idea in their heads that's like payment for order flows,
Speaker 1: Like they're buying your order flow because like they want
Speaker 1: some information and so like the Facebook model is like, well,
Speaker 1: we want your information and then we're gonna sell adds
Speaker 1: against it. Where people have this idea is like Citadel
Speaker 1: is like gonna buy your trade and then they're gonna
Speaker 1: like make their own like side beds against the trade.
Speaker 1: And I think like his description that basically it's like
Speaker 1: they make a margin on a trade and so the
Speaker 1: broker demands or could like pursue a rebate on it.
Speaker 1: It's not sexy, but I think it, Uh, it makes
Speaker 1: it makes a lot of sense as he describes it. Yeah,
Speaker 1: and also, I mean we did a whole episode on
Speaker 1: this before. But the margin requirements for trades and the idea,
Speaker 1: the idea that if trade flow is going all in
Speaker 1: one direction, then that kind of leaves the broker at risk,
Speaker 1: and for that reason they would have to stop out
Speaker 1: the game stock trades, for instance. I thought that was
Speaker 1: a pretty clear explanation. Yeah, totally. And just beside, you know,
Speaker 1: it's like obviously on any given trade, they don't, you know,
Speaker 1: any specific trade, they don't make much money. And so
Speaker 1: like if if trading is sort of noisy and uncorrelated
Speaker 1: and just one like random people doing whatever, then you
Speaker 1: know that's a pretty good environment. But something like Game stop.
Speaker 1: It was just I mean, that story took over the
Speaker 1: whole world for like a week, that's all anyone was
Speaker 1: talking about. And then so it's like you said this,
Speaker 1: like and that doesn't happen with a single stock trade
Speaker 1: very often, Like we're sort of used to crash a
Speaker 1: certain use to rallies. I don't can't think of any
Speaker 1: other time we're like a single stock trade captured that
Speaker 1: much attention. But you could see then how like all
Speaker 1: of these sort of like the algorithms that they used
Speaker 1: to like put forward a price on the trade kind
Speaker 1: of got complete, would get completely busted. Yeah, and obviously
Speaker 1: that's sort of attention. It can be a good thing
Speaker 1: for businesses, you know, market making businesses, um because it
Speaker 1: attracts additional retail trading. Or it could be a bad
Speaker 1: thing because it attracts political scrutiny and we get regulators
Speaker 1: who start to take a look at this and decide
Speaker 1: they don't like it for whatever reason. So definitely something
Speaker 1: to watch. Sounds good. I'm continuing to look forward to
Speaker 1: seeing where this guest. I got to check out the
Speaker 1: hot dogs as well. They sound good, dude, this whole
Speaker 1: to be honest, the whole time during the discussion, I've
Speaker 1: just been scrolling the hot dog all right, Um, this
Speaker 1: has been another episode of the All Thoughts Podcast. I'm
Speaker 1: Tracy Alloway. You can follow me on Twitter at Tracy
Speaker 1: Alloway and I'm Joe Why Isn't Though. You can follow
Speaker 1: me on Twitter at the Stalwart. Follow our guest Doug
Speaker 1: Seafood on Twitter. He is at Dougie Large and really
Speaker 1: most of his tweets are about hot dogs, but maybe
Speaker 1: sometimes you'll so tweet about electronic market making. Follow our
Speaker 1: producer Laura Carlson. She's at Laura M. Carlson. Followed the
Speaker 1: Bloomberg Head of Podcasts, Francesco Levi at Francesco Today, and
Speaker 1: check out all of our podcasts at Bloomberg under the
Speaker 1: handle at podcast Thanks for listening.