Carl Richards, Director of Investor Education, 4/4/2014
Do you consider yourself an investor or a trader?
The answer matters because there’s a big distinction between the two. It’s also an answer that will help you make sense of the current sideshow entertaining most of Wall Street: Michael Lewis’s latest book, “Flash Boys: A Wall Street Revolt.”
Starting on Sunday with an interview on “60 Minutes,” Mr. Lewis introduced the concept of high-frequency trading to the general public. Before this week, I’d be shocked if more than a handful of you had used the words “high-frequency trading” in a conversation. But as of today, with C.E.O.s arguing on live TV, the Federal Bureau of Investigation asking for help with a multiyear investigation, and the Securities and Exchange Commission working with the F.B.I. to uncover other abuses, high-frequency trading sounds like one of those “really big deals.” But it’s not — if you’re an investor.
Now, if you’re a trader who spends every day making trades for a living, you’ll be interested in the conversation about whether there’s a system in place for front-running your trades that costs you a bit each time you buy or sell. And if you’re a concerned citizen, you’ll care whether people are breaking the law. But as an investor, high-frequency trading doesn’t matter because you’re focused on the boring work of buying good things and owning them for a long time.
You’re not alone if you picked up the phone and asked a financial adviser or wiser friend if you need to worry about high-frequency trading. But for most of us, it’s just a distraction. It is certainly entertaining to watch this circus play out in real time, but it’s about trading, not investing. And that’s the point overlooked by many of those talking about the issue.
Even Michael Lewis hasn’t changed how he invests because of what he’s learned. When asked to describe how he invests, Mr. Lewis told CNBC, “I’ve always been a boring and conservative investor. I own index funds, and I don’t time the market … I put it away and I don’t look at it very much. It doesn’t follow from the story in the book that you should flee the market.”
Pay close attention to that last sentence: It doesn’t follow from the story in the book that you should flee the market.
Look, this isn’t the first time there’s been a national conversation about markets for goods or information and speed, and it probably won’t be the last. From using carrier pigeons in the 17th century to moving trading computers closer to exchanges in the 21st, we’ve become obsessed with this idea that speed matters. But when you plan to hold on to your investment for years, if not decades, an extra tenth of a second here or there is inconsequential.
As a result, it would be easy to make a mountain out of a molehill here. High-frequency trading isn’t about real life. It’s about Wall Street. It makes for an incredibly entertaining story, but it’s really just a distraction from the often boring work of making smart investing decisions.
Another thing to keep in mind as you watch the drama play out is that patient investors did just fine during the time high-frequency trading evolved in a serious way. If you put your money in a low-cost, well-diversified fund like the Vanguard LifeStrategy Moderate Growth Fund, your average annual return over the last 10 years has been 6.16 percent. The fund puts 40 percent of its money in bonds and 60 percent in stock, and the last 10 years includes the time of scary markets in 2008 and 2009 (which high-frequency trading didn’t cause) and the flash crash in 2010 (which it probably did).
While 6.16 percent doesn’t break any records, it’s also a lot better than nothing, and all you had to do to earn it was buy and hold. That’s the lesson you need to take away from the last few days. What matters to traders or Wall Street rarely matters to those of us who live in the real world. Our investing mistakes come when we get confused and think it does.
So read “Flash Boys.” You’ll probably enjoy it, but don’t assume for a second that it has anything to do with being an investor.
Correction: April 2, 2014 An earlier version of this article included an incomplete quote from Michael Lewis. He said “It doesn’t follow from the story in the book that you should flee the market,” not “It doesn’t follow from the book that you should flee the market.”
About the Author
Carl Richards is the director of investor education for the BAM ALLIANCE. He advises on best practices, marketing efforts and social media.
Carl is the author of The Behavior Gap and a regular contributor to The New York Times. Known for his simple sketches that capture complex investor behavior, Carl’s work has been featured in The Wall Street Journal, Financial Planning and at lifehacker.com. His work originally appeared on BehaviorGap.com.
Carl holds a bachelor’s degree in finance from the University of Utah.
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