For those who care about free and fair markets — and the accompanying concerns about  captured and corrupted regulators and politicians — a recent case filed against the major equity exchanges in our nation qualifies as an absolute must read.

This case brought on behalf of Harold R. Lanier et al against every major exchange in America including the NYSE, NASDAQ, et al centers on the ongoing debate surrounding high frequency trading within our markets.

I believe there is no doubt that those who operate within the high frequency trading arenas hope that compliant financial regulators and like-minded media will provide them the cover necessary to let the games go on.

This lawsuit, though, takes a simplified approach that should allow the general public to understand just how the game is rigged and the system is broken. Let’s navigate the key points of the suit and then an accompanying review written in this weekend’s edition of the UK-based The Guardian.

This case is about broken promises. Plaintiff Harold Lanier, and other Subscribers, (collectively “Subscribers”) entered into Contracts with the defendants, all of which are securities exchanges (“Exchange Defendants”), to receive electronic market data services offered by the Exchange Defendants. The Exchange Defendants promised to be fair by: (1) providing the market data service in a non-discriminatory manner; and (2) providing the Subscribers with “valid” data (i.e., the actual data that is accurate and not stale). The Exchange Defendants did not live up to either promise.

First, the Exchange Defendants failed to live up to their promise to provide Subscribers with the market data in a non-discriminatory manner. In an effort to increase their profits, the Exchange Defendants entered into lucrative side deals with certain customers to whom the Exchange Defendants sold advance access to the market data that Subscribers had contracted for through (1) direct feeds (“Private Feeds”) and (2) co-location services (“Preferred Data Customers”). As detailed in Section IV.C. of this Complaint, for a price, the Exchange Defendants provided access to the data to Preferred Data Customers through arrangements that guaranteed they would receive the data substantially in advance of the Subscribers.

Unbeknownst to Subscribers, these side deals resulted in Subscribers receiving data that was obsolete because the Preferred Data Customers had advance access to the data.

Second, the Exchange Defendants failed to live up to their promise to provide Subscribers with valid data. The validity of the data is what made the electronic data services offered by the Exchange Defendants valuable to the Subscribers. But by entering into the side deals with the Preferred Data Customers, the Exchange Defendants effectively provided to Preferred Data Customers the data that Subscribers had paid for, while giving Subscribers  data that was stale. In other words, as a result of the side deals, the Exchange Defendants deprived the Subscribers of the fundamental benefit of their Contracts, i.e., fair access to valid data. Plaintiff and the other Subscribers thereby suffered injury and damage as a result of the Exchange Defendants’ conduct.

Can you imagine if you had contracted with a service entity to receive real time data only to learn that a competitor of yours contracted with that same service provider and received data that was even more timely so as to make the data you received to be stale? Think you would be pissed knowing that you were at a real disadvantage? Of course you would. Let’s now review commentary from The Guardian that raises a host of key points and compels me to ask a number of questions.

In a comment that rings all too similar to those put forth in my book, the lawyer bringing this case learned that:

. . . the deeper he delved, the more forcefully a depressing truth emerged: that a fortress of legislation had been built around the stock exchanges and powerful traders (mostly banks and hedge funds) by lobbyists and politicians.

Recall that then SEC chair Mary Schapiro pointed the finger directly at a Kansas City based firm Waddell and Reed for overloading the system with a sell order so as to cause the Flash Crash on May 6, 2010. Eric Hunsader, an industry insider with unparalleled expertise in mining and studying price data, strongly refutes that explanation.

When Waddell & Reed took the highly unusual step of asking Hunsader to examine their algorithm and its actions on 6 May, he quickly saw that it could never have caused the Flash Crash. The truth lay elsewhere.

What did Hunsader learn?

. . . he made a remarkable discovery: that the price information going to the Securities Information Processor – the so-called “SIP” feed upon which participants rely for live market data – had been delayed. Meaning that when pundits and the public still thought the Dow was in freefall, it was in fact rallying hard. Anyone who sold near that false bottom would have lost their shirt. And anyone who bought made a killing.

Are our equity markets rigged or broken? Call them what you want but that statement tells me all I need to know to maintain that those charged with protecting the public interest are doing anything but.

One final point. This lawsuit strikes right at the heart of integrity in the system and does so for the benefit of the American public against the big money centered on Wall Street and the power connected in Washington. Where is the fourth estate, that being our major media, to provide meaningful coverage of this lawsuit? Why is it that a UK-based periodical is carrying the water in drawing attention to this suit?

One can only surmise that our major financial media are also in bed with Wall Street.

Navigate accordingly.

For those who would like to read and review the 40 page complaint, I welcome linking to it: Harold R. Lanier v BATS, CBOE, NYSE, NASDAQ, et al

Larry Doyle