When the Chief Investment Officer of the nation’s second largest college endowment writes an op-ed in the New York Times about US equity market structure and rigged stock trading, you can bet we are going to feature it in our note.  The op-ed, written by David Swensen, CIO of Yale’s $25 billion endowment, and Jonathan Macey, Professor of Corporate Law at Yale, is titled “One Way to Unrig Stock Trading” and is an absolute must read for anybody involved in the public equity market.

We knew we would like this piece after reading just the first two lines which reminded us of two of our favorite books:

– “America’s equity markets are broken.” (of course, this reminded us of that 2012 book published by some guys you may know titled “Broken Markets”).  

– “Individuals and institutions make transactions in rigged markets favoring short-term players.” (this reminded us of the 2014 best seller “Flash Boys”.)

Swensen and Macey are a new and welcome voice to the market structure debate.  Swensen, as many of you know, is an extremely well-respected investment chief that has transformed the way college endowments are managed with his alternative investment approach. Bloomberg defined his style as one which “favors a longer investment horizon and committing capital to illiquid investments such as hedge funds and private equity that often provide higher returns.”

The op-ed hits on all the main problems that continue to plague the US equity market including: fragmentation, payment for order flow, lack of real liquidity, the changing role of for-profit exchanges, high frequency trading, proprietary data feeds, esoteric order types and colocation.  Here are just a few lines from their piece:

“Market fragmentation allows high-frequency traders and exchanges to profit at the expense of long-term investors.”

“Market depth is an illusion that fades in the face of real buying and selling.”

“Exchanges advance the interests of traders by sponsoring esoteric order types, which for hard-to-understand reasons receive the approval of the S.E.C.”

While Swensen and Macey seem extremely discouraged by the current structure of our equity market, they are encouraged by one thing:  the pending approval of exchange status for IEX .   They are encouraged because IEX is seeking to help long term investors and not looking to cater to short-term, high speed traders (an idea that most current exchanges seem to have forgotten a long time ago).  We think Swensen and Macey nailed it with this line from their op-ed:

“An unholy alliance of exchanges (including the New York Stock Exchange, Nasdaq and BATS) and high-frequency traders like Citadel have petitioned the S.E.C. to reject IEX’s current application. In essence, the petitioners argue that it is consistent with commission rules for an exchange to sell certain customers an advantage over others, but IEX should not be allowed to remove these advantages.”

With their op-ed, Swensen and Macey have chosen a side in the IEX debate.  Others on this side include many long term institutional investors, many retail investors and some firms that have been advocating for a fairer market structure like Nanex and Themis Trading.  Those opposed to the IEX exchange application include the entrenched, status-quo stock exchanges, high frequency traders and their lobbyists, conflicted industry consultants and internalizing market makers who have profited handsomely over the past few years from payment for order flow and latency arbitrage.

We think if the SEC really seeks to protect long term investors, then they just have to look at the players involved and where they stand and they will have no choice but to approve IEX’s exchange application.  But we also agree with Swensen and Macey that approval of IEX “will not fix America’s equity markets; it will make them less broken.”