Michael Lewis is one of the greatest financial journalists of the last 30 years, most celebrated for his book ‘The Big Short’ about the build-up to the 2008 financial crisis, later made into a film with Brad Pitt and Christian Bale.
He followed up on that success with another equally important book in 2014, Flash Boys, that exposed the dark side of what is known as high-frequency trading in the US financial market – often abbreviated to just HFT.
High-frequency trading is the practice of making small gains from frequent trades using automation. The key to success is speed, through what is known as front running.
Front running is taking advantage of the knowledge that a retail investor wants to buy share A, jumping ahead of that trade request to buy it before them, knowing they can make an instant profit by selling to the retail investor at a slightly higher price than they would have otherwise paid. The retail investor has absolutely no idea what is happening in the background.
The focus of Flash Boys was to expose how high-frequency trading essentially rips off the average investor, and the lengths that they would go to receive/execute trades faster than anyone else. It should also explain why apps like Robinhood can offer zero commission on trades because they are essentially being paid by third parties for information on the flow of orders from which they can profit.
The level of competition to be at the head of the front running queue within existing financial markets means that even a nanosecond can make a massive financial difference.
In fact, most of the money made within TradFi – traditional finance – comes from exploiting minute market inefficiencies. Given that knowledge, it shouldn’t be a surprise that as liquidity has suddenly flowed into a completely new type of financial market – DEFI – that similar types of techniques have emerged to exploit the greater inefficiencies which come from the immaturity of the markets involved. This is really one of the main reasons why Flash Loans have emerged.
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