We Study Billionaires - The Investor’s Podcast Network - TIP 036 : Starting His Own Stock Exchange - with Jos Schmitt (Investing Podcast)

Starting point is 00:00:00 This is episode 36 of The Investors Podcast. Broadcasting from Bel Air, Maryland. This is the Investors Podcast. They'll read the books and summarize the lessons. They'll test the waters and tell you when it's cold. They'll give you actionable investing strategies. Your host, Preston Pish and Sting Broderson. All right, how's everybody doing out there?

Starting point is 00:00:29 This is Preston Pish, and I'm your host for The Investors Podcast. And as usual, I'm accompanied by my co-host Stig Broderson out in Denmark. And today we've got a really fun guest for you. His name is Joe Schmidt. And he spent more than 25 years in the financial service industry, both internationally and in Canada. And with an expertise in market infrastructure space across asset classes and across geographies. Prior to joining the company that he's the CEO of right now, and that is the Equitous Neo Exchange, what he's done is we talked to probably maybe 20, episodes ago about Brad Katsuyama and this book Flash Boys with high-frequency trading.

Starting point is 00:01:07 And what Joe's done is he started his own exchange and done something kind of similar to what Brad Katsuyama has done. And he's out there combating this high-frequency trading with the stock exchange that he has started. So he comes with a wealth of experience. He is a right now, he's the president and CEO of this company. He's also been the European Derivatives Exchange in Clearing House President and CEO. of a pan-European indices publisher, the chairman of derivatives, SRO, and the head strategy and business

Starting point is 00:01:37 operations at the European Stock Exchange. So to say that he comes with a wealth of experience is an understatement. So, Jose, we cannot thank you enough for coming on the program. I know our audience is going to benefit tremendously from what you have to say and some of your responses to our questions. Pleasure to join you. All right. So, Jos, let's go ahead and kick this thing off with the first question.

Starting point is 00:01:58 And I think the best way to maybe open this up is to get a feel. for who you are and maybe a little bit of your background. But more importantly, tell us what sparked your interest to start your own stock exchange and go toe to toe to with some of these high-frequency traders? Yeah, I think you already talk yourself a bit about the background and the experience. I'm not going to spend too much time on that, but it has been many years in the active in the exchange space, whether it was securities, derivatives, whether it was trading, clearing settlement, just name it.

Starting point is 00:02:34 So I had the opportunity to look at how markets worked and more importantly, how they evolved over time. And the last initiative I was involved in here in Canada was the setup and the operations of what we call over here an alternative trading system. So not a stock exchange as such, but a marketplace where you can trade securities that are listed on the stock exchange. I think you mentioned Brett Katsuyama earlier. A.X is a good example of that. They are today not a stock exchange, but they are an alternative marketplace where you can trade securities. So I did that in Canada, and that was from 2000 date until 2012.

Starting point is 00:03:17 And in that period, it's really the period where the concept of high-frequency trading, as we know, it today, developed. And you look at the U.S., you look at Canada, I would say high-frequency. trading really started 2007 in the US, 2008 in Canada, and then continued to grow. And that is also where we saw the development of many of those behaviors that I would define today as prioritory. But that is the history. So in 2012, then something important happened to me. That is that an alternative marketplace that I set up and did that with a number of financial institutions got acquired, by the group of institutions who brought it together with the incumbent, what we call over here in Canada, Toronto Stock Exchange, and created one big virtual monopoly again, if you want, in the Canadian

Starting point is 00:04:15 marketplace. So when all of that happened, you know, there was an opportunity to stay, but at the same time, it was not really an environment that was right for me. And I decided to move on. and probably a week later, one financial institution came to me and said, you know, looking now at the Canadian marketplace, we are back in a monopoly situation and we have a player here, an exchange that is rather enabling high-frequency trading than trying to tackle some of the issues with it. Do you think we should start a new competitor again?

Starting point is 00:04:51 Now, you can imagine that having left my previous gig a week earlier, it was not the first thing at the top of my mind. And my reaction was, look, I don't see the benefit of doing this again. This is going to create more complexity, more cost to the industry. Because think about it this way, every marketplace you launch is a marketplace that people need to connect to, that people need to integrate with. So there's a lot of work with that. And then the conclusion of a conversation was, you know what, why don't you take a month and a half, two months, sit back, look a little bit at what you see happening in the markets and what you think could be the solutions. So this was great. It kept me out of trouble while I was not doing anything else.

Starting point is 00:05:35 And I then started analyzing how markets operated at that moment, what the issues were, what the challenges were. and clearly noticed one high frequency trading is a component that is omnipresent in the markets today and that it leads to a certain number of behaviors that are proprietary in nature, that are detrimental to long term in the pastures, but also notice a lot of other things because people always focus on the concept of high frequency trading. Also noticed that it has an indirect impact on the liquidity of less than less than. actively traded securities, and we can talk about that afterwards. I noticed that a category of market participants that we used to know in the past as market

Starting point is 00:06:24 makers has been pulling out of the markets, and they were a key liquidity safety net in those markets. I noticed that the cost of trading, the cost of access to market data has continued and continues to grow, making trading very expensive. I noticed that the companies that are seeking to raise capital are more and more concerned about going public, worried about the behaviors they see in the market, the impact it has on its pricing,

Starting point is 00:06:54 the risk that if they go public, you know, if they're not part of a select few, they will not have liquidity, which can be very detrimental. So many, many issues for which then I started working on identifying solutions. And when all that work was done, you know, a good overview of challenges in the market, a good overview of what the solutions could be, I handed that back to the person I was working with with RBC and told them, you know, these are my findings, this is what I believe, and these are the solutions. And, you know, this is not simple, because if you want to put those solutions in place, it's not just about setting up a new alternative market or a new alternative market. alternative trading system, but I think we need to set up a full-fledged stock exchange.

Starting point is 00:07:43 So, Joe, I've got a question for you because this one's kind of burning after reading Flashboys by Michael Lewis. The big claim to fame that all these high-frequency trading companies say that they're adding value is in the liquidity realm. They're saying that they're adding a lot of liquidity. Is that a true statement? Is that really what they're doing, or is it the opposite of that? Because you hinted on, you know, smaller companies and you said something about the liquidity.

Starting point is 00:08:07 What were you getting at with that? Yeah, it's a complex answer. You know, I wish I could say things like Michael Lewis in black and white. And sadly enough, you know, the world is not that simple. But I would put it this way. The first thing that we need always to remember is what is high frequency trading? That's a starting point we need to think about. High frequency trading is not a strategy.

Starting point is 00:08:32 High frequency trading is not a way that you, you know, buy or sell securities. high frequency trading is what I would more define as a methodology. So it's a tool. It's being able to very rapidly have access to data and very rapidly react upon that. Now, like with everything, think about the Internet is a good example also. With everything, with all new technologies, you can use it in a good way and you can use it in a bad way. If you use it in a good way, you can apply it to provide better quality to the markets,

Starting point is 00:09:07 better liquidity in the markets by managing a multitude, for example, of securities that are correlated. Think about someone who is making a market in an index exchange traded fund. Well, he's not only making a market in that ETF. He also needs to be present in the related futures, the related options. If you want to do that today in today's world and you don't have the right technology in place, you cannot provide a quality service. another example, and high frequency trading is a tool that can help you. Another example is arbitrage.

Starting point is 00:09:43 If you want to make markets very efficient, you know, having the technology that allows you to really do efficient arbitrage between a multitude of markets that are correlated, is going to be good for liquidity. So those are good usages of high frequency trading technology. Now, as I said, like always, what you see is at some people will start to figure out, well, wait a minute, I can also use that in a different way. And for me, a good example of what probably is the most pervasive use of high frequency trading in a negative way is leveraging information to technologically frontrun on a market

Starting point is 00:10:22 participants. Let me give you two simple examples. We know today that certain firms are just sitting in the markets, lurking at what's happening in that market. And as soon as they detect that there is an order coming in, whether it's a large institutional order or even a retail order, as soon as they detect that that order comes in, they will try to front run it on a multitude of other markets. And you have to put this in the context of a world where today one security, the same security, can be traded in a multitude of different marketplaces. I think about the US, there's 50 marketplaces where you can trade, I don't know, IBM. There's 50 marketplaces where you can trade Microsoft or Oracle.

Starting point is 00:11:07 So they sit in those marketplaces. In one of them, they're going to see that someone is coming in. They know that he's going to hit some of the other marketplaces, and then they're going to try to trade ahead of the arrival of that order in the other marketplaces, front run it, and then sell back at a higher price. That is one way. Another way is that they leverage, you know, some of the latest technologies. microwave technology, which allows to move data in a few milliseconds faster, for example,

Starting point is 00:11:35 between Chicago and New York or Toronto and Chicago or Toronto and New York. So they know a few milliseconds before everyone else that there's a price change in a commodity, there's a price change in a correlated security in the U.S. and then they front-rend everyone else in the market in Toronto. And by the way, when I say they are a few milliseconds faster, you have to put that in a perspective, which is that when you blink your eyes, when I blink my eyes, it takes us about 300 to 400 milliseconds. So by playing those games, by leveraging technology where they can gain three to four milliseconds, they are front-running other players who have no ability to

Starting point is 00:12:15 react to it. Those behaviors are the bad one. And those are the ones that need to be counted. So I think that is a very important element to think about. So can they provide liquidity? Yes, if they apply HFT in a positive side. Can they negatively impact liquidity? Can they create an unlevel playing field for other market participants when they apply the negative way? Yes, also. So it can go both ways. And the last element that I would like to add to that, talking about liquidity,

Starting point is 00:12:47 because you referred to my earlier comment about smaller securities or mid-sized securities. One thing that we have also noticed, and that was part of that original analysis, When you look at the high frequency trading, you will see it concentrated in the most actively traded securities. So I don't know if you ever notice that. It's quite fascinating. When they say they add liquidity, one thing that I find fascinating is, well, why don't you do it in securities that really need it rather than those where we don't need it? And many of the transactions for me are more driven by creating more volume than creating real liquidity. Well, it seems like they would use the larger volume stocks because they're baiting.

Starting point is 00:13:27 So let's just take the Chicago to New York example that you were talking about in that arbitrage example. So if the stock is IBM, I have an expectation, if I'm a high frequency trader, I have a high expectation that there are people out there with a very large quantity of shares. So I would expect somebody to own 100,000 shares of IBM. They know that they're not going to be able to fulfill that maybe completely in Chicago. So their baiting is going to pick up on that. And then they're going to be able to beat them or front run them to New York. York in order to have that done. But if it's a small volume stock, most likely I would, I would suspect this is how they're thinking, and I might be wrong. You would know better than I would know,

Starting point is 00:14:08 but I would suspect that if it's a low volume stock or something that doesn't have a large volume of shares from a single person or a single entity, it's going to be harder to get more, you're going to have a harder time finding more examples and more exercise of basically front running them and beating them to the other exchange. Would you agree with that? You're absolutely right. I think your analysis is 100% correct. That is that those strategies only work in insecurities that are liquid where there is investor interest. So if there's no investor interest and you try to do that, where you put yourself at risk when you're technologically front run because you're not sure you're going to be able to sell it back. Because always think

Starting point is 00:14:50 about it this way. It is that type of strategy, that technological front-running, strategy is a no risk strategy. They will only do it if they are sure that there's going to be interest that will allow them to revert their position once they've taken it, you know, based on their asymmetric access to information. And what does that mean? What that means, and which in my eyes is quite fundamental, is that the less liquid securities get less and less attention, or they don't get any attention from them. but what you've also seen is that the market makers, and remember the concept that talked about earlier, market makers were stakeholders in the industry,

Starting point is 00:15:30 who took upon them an obligation to provide liquidity at all times, and they had a certain number of advantages in doing that. But how did they model really work? They made money in liquid securities, because that is the same as an HFT probably would do today, and then that gave them the compensation to put capital at risk, that gave them the compensation to sit on positions if you want in less liquid ones and act as a provider of liquidity. But they have been totally crowded out in the active securities by HFTs,

Starting point is 00:16:04 cannot make money anymore. All they are left with is bad trades and less liquid securities. So they started to pull out and we see liquidity in the small and midcap securities slowly but surely deteriorating. Joe, I just need to be sure. So what you are doing at your exchange is that you are slowing down these orders from the high-frequency traders. Is that what you're also saying? Well, we have a set of tools. So if you look at our model, our model is different, you know, from a pure trading perspective.

Starting point is 00:16:35 Now, that's what we're talking about. It's different to the model that Brett has been using at IEX. So he has a model where he slows everyone down. We have a model where we say, you know what? we're going to identify who high-frequency traders are. We, you know, I would say tend to know who they are already, but we have a clear definition that allows us to spot them and identify them. And then when they trade securities on our platform,

Starting point is 00:17:05 we apply a series of mechanisms to prevent or try to prevent. I'm not going to say we're perfect 100%. I wish I could say that. But on try strategy is about preventing privilege access to information that allows technological front running to take place. And it's a combination of tools. So one of the tools that we use is when they want to take liquidity in one of our trading books, as you just said, yes, we throw a speed bump in front of them. And we slow them down, believe it or not, not for more than five to nine milliseconds. And it is something that is random, because if it's not random, we know they can adjust.

Starting point is 00:17:44 to it and that advantage that they had like they knew something or they detected something before anyone else well suddenly you can't execute upon it anymore but other mechanisms that we use that is if they are sitting in the book I'm sure you must have heard about layering the books where you see lots of small orders put in books that are sitting there and waiting you know as part of detection mechanisms or as part of a strategy where you can sell at a higher price well if they do that and you have a long-term investor sitting next to them at the same price, usually much further in the queue, because the trading book is based on the first in, first out principles.

Starting point is 00:18:24 So you always have the HFTs sitting at the front and the long-term investors at the back at the same price. Well, we say, too bad to set, if it's a long-term investor, he's going to jump the queue. So even if you were in that book before him, he's going to jump the queue. So those are two examples of the things that we do. having analyzed all the various types of strategies that we know they deploy, we then came with solutions to tackle that. But at the same time, we didn't want to punish anyone, you know, who's a long-term investor.

Starting point is 00:18:56 So I don't see the benefit of slowing down a long-term investor. Why would we do that? So we have been very selective in identify the strategies and apply a cure a solution to prevent it predatory strategies and apply a cure a solution to prevent that predatory strategies. at the Jeep to be deployed. Let's take a quick break and hear from today's sponsors. All right. I want you guys to imagine spending three days in Oslo at the height of the summer. You've got long days of daylight, incredible food, floating saunas on the Oslo Fjord,

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Starting point is 00:23:20 All right. Back to the show. That's fascinating. I'm just blown away. Now, do you run into any, so what you're talking about is, is basically I know who the person is that's coming to me. And if it's a person with a long strategy, we let them, you know, execute as normal. But if you're a person who's a short timer or has a real short strategy, we're going to assess whether we allow you to come in immediately based off of a random time delay. Is that I, did I catch it correctly?

Starting point is 00:23:51 And if so, is there any legal ramifications with doing that? Well, I probably a couple of comments to us. So your assessment of what we do is correct. And this is, as I said, one of the strategies that we use and we use many other ones. And by the way, what I would add to that is that we apply this to anyone we define as a high-frequency trader. And before I answer your legal question, it's probably interesting to talk about that. because remember, I said that there is good behaviors and bad behaviors. So are we then impacting them both?

Starting point is 00:24:29 Well, no, that is the beauty of the approach that we took because our approach is not trying to prevent a high-frequency trader to trade on our market. Our approach is to prevent them to roll out certain strategies on our market that we know are predatory in nature and detrimental to all the other investors. And I had a beautiful discussion, and I give you that as a quick. anecdote. At a beautiful discussion with a market participant who joined our venue and said,

Starting point is 00:25:01 well, I want to be a real market maker on your exchange. I don't do any priority strategies. I will just provide real liquidity. I'll take up an obligation in the liquid securities and less liquid securities. So I assume that I'm not going to be subject to your speed bump. And I said to him, well, you are an eye frequency trader. He says, yeah, but I only deploy good strategies. I said, if you only deploy good strategies, you shouldn't have a problem with a speed bump. And the discussion, and the discussion was over. But why do I give you that anecdote? Because I think it clearly defines what we seek to do. So we are not in any way, shape or form anti-HFT. Again, as I said earlier, high frequency trading is a methodology. And some people use

Starting point is 00:25:49 it in a good way and some people use it in a bad way. And what we just try, to counter is the bad strategies. And if you use it in a positive way, you know, you will have the ability to be successful in our market and we will welcome you with both arms open. Because I do fundamentally believe that the electronification of the markets has been beneficial to the liquidity of the markets. But like always, some people abuse it. Now, let's come to the legal question. And I would probably define it more as a regulatory question. When we started this initiative, and I gave you a little bit of history in the background earlier today, all of that started at the end of 2012, and then the seed funding from those eight

Starting point is 00:26:34 organizations came in, I think it was May, May or June, 2013. And then we had a period of eight months focused on discussing and presenting our solutions to the regulators. Because the solutions that we came with, you're absolutely right, are totally different. You know, when you say, I'm going to slow certain participants down, when you say I'm going to change the way that priorities are taking place in a market, well, it's nothing to do with the way that things used to operate in the past. The models in the market is, you know, everyone does whatever he wants and you typically trade on the first in, first out principle. So this went, again, a lot of, you know, established traditions and ways of working.

Starting point is 00:27:25 And we got some reactions and discussions and questions about it. We even went, before we initiated, you know, the formal start of this exchange, we even went through a common process, an official common process in Canada where the regulators put forward the principles of our exchange, not the ask for a recognition of a new exchange, but the principles of the exchange to see how the market would react. Lots of debate, lots of discussion. And you know what? I thought it was great.

Starting point is 00:27:55 You know what I like about this, Joe, is so many people are polarized in their opinion on this. They hear about it. They have very fine surface knowledge as to how it works. I mean, that's how I classify myself as like I know little tidbits, but I don't really understand it to any level that you understand it. I think most people have this surface knowledge and they immediately say it's good or it's bad. And without a lot of discussion, without bringing these topics up and putting them out there, I think that you have such a balanced opinion and balanced argument that that's where the truth lies. And I think that when people are trying to say, hey, there's good pieces to this.

Starting point is 00:28:36 That's what we need to focus on. And then there's bad pieces of this. That's what we need to stop. I really give you huge kudos for seeing things from that. perspective and keeping a nice balance argument. I think that that's why your exchange is going to be successful is because you're taking that approach. You want it to be good for the investor. The person who's conducting those trades, that's who you have your interest in. And I know that that's in your mission statement. And it's great to hear, you know, as we're talking to you, I can see that.

Starting point is 00:29:03 I can see that coming out that that you live that mission statement. It's really quite refreshing. So I'll go on with the next question here. Sorry for the prolude there. But what is something something that happened during your adventure of creating this exchange that would really surprise a lot of people in our audience, maybe a funny story or something that just people would not expect. Well, I almost introduced it already in what I was saying earlier. And that is when we went through that, you know, what we were in technical jargon call pre-filing common process. So that common process before we even said, you know, we want to become an exchange.

Starting point is 00:29:41 about that process where we went for public comment with the regulators to just discuss principles of what we want to do. So that is something very unique. You don't see that. You've never seen that before. And that was something very exciting. And it was showing you that clearly there was an understanding that there is something that needs to change. There is something that needs to evolve.

Starting point is 00:30:07 And no one is really 100% comfortable with what that shows. should be. Well, we had our very strong views and opinions about it, but you could see that the regulators wanted to get feedback. That was quite unique. But this is not what really got me excited, to be honest. When we started in that process, something very unique happened. And that was that a stakeholder that has always been silent in the way, in any common process or in any debate around how markets operate, suddenly emerged. And that was the public companies. That was the capital raising companies.

Starting point is 00:30:47 Think about it this way. If you are a corporate, you need money. You got a number of options. You can go to the bank, you can go private, or you can go public. So you can list your company on exchange. We know that banking funding is a bit tight for the moment. If you go private, you know, there's often an issue where you may lose substantial control over your corporation. So going public is a great option. But going public will only work if your

Starting point is 00:31:15 security is going to be traded in a liquid way so that you have volume. Because if it is not, investors will look at it and your future cost of capital is going to go up. Plus, you will not be able to use it in a successful way as a currency, you know, if you want to do some merger and acquisition and things like that. And what more and more corporations start to realize is that, The way that markets have evolved is negatively impacting the liquidity of their security. And they too suddenly, with us emerging, said, well, wait a minute, those guys are hitting some key points that are at the root cause of the problems that we start to observe in the markets. And never seen that before. Suddenly, we see those corporations starting to make comments with limited knowledge. You know, you can't expect a company that has a business to run to be an expert in market structure.

Starting point is 00:32:07 but they started to say, well, wait a minute, there are issues indeed. And these guys were not 100% sure what they're doing and how they're going to solve the problem, because that's a bit the kind of comments that you got. But at least they are raising the right issues, and they are coming with a number of solutions. So we should support that kind of innovation and that kind of transformation of capital markets. That was extremely exciting and with a bit of a funny component to it, because indeed, when you talk with them, it is very complex for them.

Starting point is 00:32:36 So they don't really know what we do. They don't really know how we do it. But they say you hit the big issue that we are facing as corporate companies. I mean, just trying to wrap your head around this stuff, it is very hard to do. And if you're focused on the corporate side, you're running your business. Like, you see somebody like yourself and your exchange coming in here, be like, I don't really necessarily understand everything you're doing, but I like it. I see the value you're adding, but I don't know how you're doing.

Starting point is 00:33:06 doing it. Yeah. No, absolutely. And, you know, it takes you back to how complex, you know, markets became and then how complex things, things are. And then, you know, without, as you said earlier, I think it's a very important point that you make without getting into a black and white analysis of the scenario. Like I mentioned it earlier, I would love to go out and say, you know, HFTs are bad and we don't have HFTs. But that would be. an absolutely false statement. And if you would have that approach, you would have more of a detrimental impact on markets than anything else.

Starting point is 00:33:45 But if you get into the nuance, then it becomes all very, very complex to explain. And even us at the beginning, people were labeling us as, oh, this is the anti-HFT stock exchange. And I said, no, we're not. We are anti-cratory behavior. We are pro-liquidity. We are pro-doing doing what is right. for the investor and the issuer of the capital raising company. And that is how we will build our solutions.

Starting point is 00:34:12 So, Joe, I was just thinking the interrelation between those exchanges. I think that was also some of the really good things in Flashball, is the book about Michael Lewis that I would really encourage everyone to read, perhaps even before they listened to this interview. But do I understand you this way that say that I want to buy stocks in highly liquid stock like the Royal Bank of Canada, then I can just go and buy from your exchange and not use, say, the Toronto Stock Exchange instead. Is that how stock exchanges work, that I can pick my favorite exchange, or how does it work?

Starting point is 00:34:48 Yeah, that is an interesting question and a very critical question. When you want to buy a security today, you know, you can go to your discount brokerage platform or you can go through your dealer. But at the end of the day, the decision on where that order will be executed is going to be subject to two things. One, the fact that the trading desk that is going to place the order in the market needs to make sure that you trade at the best prices available in the market. There's a regulation that is in place in the U.S. It's called Reagan MS. It's the OPR rule in Canada. So you cannot trade at a price that is below the best price available in the market.

Starting point is 00:35:38 So that is the first element that place. And Joseph, by market you mean any of the markets. Any of the markets. So in Canada, you have nine marketplaces now where you can see prices. So you always have to send your order to the marketplace that has the best price. Now, what often happens, you know, due to arbitrage and other reasons, that is that those marketplaces tend all to be at the same price. And then the second element kicks in that is the decision of a trading desk.

Starting point is 00:36:09 They're going to say, well, I'm going to send my order rather here than there. And what drives that? Well, what should drive it is the market I go to, which one will have the highest probability that my order gets totally filled in one shot? What is the probability that the price is not going to move before I hit that market? And so on. So the key consideration that should drive it is best execution. But what we also see, Mary Joe White made a beautiful comment about it a couple of days ago

Starting point is 00:36:39 when they started a new market structure advisory committee in the U.S., sponsored by the SEC, where she said, why is it that 90% of all the retail orders are being sent first to the marketplaces that gives the biggest rebates to the dealers? So what we see is that that's a very important element in that process also. And the risk with that is that high frequency traders know that. And they know that an order is going to go first to a marketplace where, you know, there's an incentive for the trading desk to set it. And then what is a typical strategy?

Starting point is 00:37:17 They're sitting there. They see it coming in. They trade a very small part of it. And then they know that something else is going to come in all those other markets. marketplaces and they are going to cancel their orders there, front run what they're going to front run it, cancel their orders and then sell it back at a higher price. That is typically again that technological front reading. So can you now as an investor influence that? Well, it's very difficult because you cannot say, you know, I want if different marketplaces have the same price

Starting point is 00:37:50 at which I can trade, I want to go to the equitas near exchange first. You don't have that on your discount brokerage platform. And if you work with your investment advisor or whatever it is, he cannot say you send it to Neo Exchange first because that decision is taken centrally. So you cannot impact that directly. But what can you do, what you can do is two things. One, you can say, gentlemen or ladies, I want to understand how you are handling my

Starting point is 00:38:19 orders and ask for transparency. Start to raise the issue. when I look at the confirmation receipts of my own orders, I see exactly where they trade, what the first marketplaces they trade on, and then also how the price evolves. Can you explain me why this is happening? And I would like this to change going forward. So I think very important to start showing the industry that as an investor, we want to understand more about what's going on.

Starting point is 00:38:50 And when we see things that we don't like, we want our instructions to start showing the industry. be followed. And at the end of the day, we are the owners of the shares, no one else. So I think it's very important to raise the issue, ask for transparency, and start to feel empowered about doing it. Today, it's not something you can control yourself, but you have to start putting pressure on the system. The second element that you can do, and that is very exciting in what we see again around us, that is that we see some dealers starting to go public and say, by the way, we give you a choice. If you work with us, you can decide where your order is going to go first. And that is the beginning of tomorrow's world. Let's take a quick break and hear from today's sponsors.

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Starting point is 00:42:56 Back to the show. Wow. That was really insightful. This is a question I would like to ask everyone that we have on the podcast. Looking at what you have said about the exchange and the vision, also the mission about the exchange, do you have any books that has shaped your life personally? This is something you want to give to other people if you could.

Starting point is 00:43:19 Yeah, I'm going to take you by surprise. because I'm going to talk to you about a book that has nothing to do with the industry. But you can link it back to our vision, our mission. And the book probably impacted me most. And I've had the opportunity to read a few in my life. Many link to the industry, which were usually quite boring, to be honest with you. But I read, I think it was probably a good five, seven years ago, short history. of the world, which was a book written by A.G. Wells in the early 20s.

Starting point is 00:43:57 And what that book is doing, it is giving a bit of a holistic overview, you know, based on the knowledge and scientific knowledge at that time, so we're talking early 1920s, of the evolution of Earth and mankind since inception until then. And remember that it ended pretty much. just after World War won. And what struck me with that book is how it was showing the entire continuum of history and how history evolves

Starting point is 00:44:35 and how it predicts things and how things can go in a good direction, can go in a bad direction. And then it was showing that globally, not just focusing on our Western culture, but looking also at what's happening, you know, in what was happening in Asia. Like if you think about the entire period of enlightenment of the Greeks in the 6th century BC,

Starting point is 00:44:59 something exactly very similar happened at the same time in China. But the point that I want to make is it shows you big things, a large continuum, and it shows you at the same time that we, you know, as important we may think we all are, are just a very small piece in a history, in a time space continuum that has a very small amount of time, or we have a very small amount of time to do something that is going to be really valuable for the evolution of desert and for the evolution of this mankind.

Starting point is 00:45:35 Now, sounds all very nice what I say. So why did that impact me and how did it impact me? Well, it impacted me by making me think a little bit about, you know, what am I doing? What are we doing? and what are we seeking to achieve? And it is the main thing in my industry where I can be more meaningful

Starting point is 00:45:57 than just trying to develop another business that's going to seek to be successful from a financial perspective solely, make shareholders happy, can I do something else? And I would say that that type of realization of who we are in what continuum we live made me think a bit about,

Starting point is 00:46:15 can I do something more, can I do something different, And can I do something transformational that can represent at the end of a day some form of legacy for the better of the industry that I know and that I'm good in? And if you want to be meaningful in your life, you have to do something that is really about making things better. And when I didn't take that back to the Equitas Neo Exchange, the Equitas Neo Exchange, the Equitas Neo Exchange, it's not something I did because I wanted to have a job. It's not something I did because it is something that could generate.

Starting point is 00:46:48 big returns. It's something I did because I fundamentally believe that we have issues. I fundamentally believe there are solutions and I fundamentally believe that it's an incredible opportunity to do what is right. I'll tell you what, Joe, that was fantastic. I love the book recommendation. I love how you put your perspective in there of, you know, go after it, make a difference. And I think for a lot of people, they can be inspired by listening to a person like yourself who, I mean, you're a big dreamer. I mean, this is, you don't stand up your own stock exchange on a whim. I mean, this is not an easy task. And to do it in such a highly complex and highly technical industry just is an inspiration for people listening to this so that they can take that same motivation and take

Starting point is 00:47:40 it as, you know, you, the listener out there, you have that thing. that you know you can make a difference in. And it might be something really big. And look at Jose. Look at what he's doing. He just went after it. And I think for all of our listeners, that's exactly what they can take away from this interview.

Starting point is 00:47:55 Is they can go after it. They can make a difference and shape the world around them. It's just awesome. I love this interview. I really thoroughly enjoyed hearing your perspective on this. It was kind of neat to hear the other side of the coin to Flash Boys because I think Flash Boys definitely paints HFT in a very, bad light. And it's kind of neat to see a person like yourself basically combating the high

Starting point is 00:48:20 frequency trading, the negative piece of it. And then also having the courage to talk about the positive pieces of it too and how it is adding liquidity, but maybe just maybe in the wrong areas, or in the wrong type of companies. So that was just fantastic. I really enjoyed this. Thank you. The one comment that I would add about Flash Boys and the way to look at that book, so Stig, you make the comment earlier. People should read it. Well, yeah, I will recommend the same. And then, you know, I got sometimes reactions back.

Starting point is 00:48:51 Why you tell people that they should read it? This is too negative. This is, you know, someone who's saying markets are rigged. This is not good for investor confidence. Just name it. And my view is you should read it. Because in that book, there is a lot of elements that are correct. When you look at the way that some of the strategies are being,

Starting point is 00:49:12 depicted and what kinds of things are happening in the markets. It's absolutely true. Don't tell me that that's not true. But then the problem of course with a book is that a book needs to simplify. It needs to turn the world in black and white. You want people to read the book, get excited about the book. You don't want them to read 20 pages and then put it down and go like Jesus Christ, I don't know what's going on over here, I don't understand it. So it is a simplification of things, but at the same time, there's a lot of truth behind it. And by the way, yes, we have an investor confidence crisis.

Starting point is 00:49:49 Let that be very clear. It's not going to help us by saying the markets are rigged. I think what we should say is that there are issues in the markets. The markets have a fairness issue. They need to be transformed into more of a level playing field. And there are solutions to do that. And those solutions are being put in place today. But what the book has done,

Starting point is 00:50:09 And, you know, there I say, thank you to Michael Lewis. What the book has done, it has put these issues at the forefront of everyone's mind. It has initiated a wave of transparency. And what we need to do now is make sure that that transparently is really translating the reality of what's happening and not just being an oversimplification of things because then we are negatively impacting, as you just said, all the value that can be brought by high-frequency traders to the markets. Well, thanks, Jose.

Starting point is 00:50:46 We really appreciate you coming on the show and sharing your knowledge and expertise, just our audience to learn more about what you do in your exchange. And we'll have Jose's Stock Exchange, the link to it on the web, right in our show notes. So if you want to just go and kind of read through some of the stuff that they're doing, we'll have a link in our show notes for you to do that. So, Jose, thank you so much for coming on the show today. Thank you, gentlemen. It was a good pleasure. All right, so this is the point in the show where we take a question from our audience,

Starting point is 00:51:15 and this question comes from Eric Frank Houser. Hello, President Stig. My name is Eric Frank Houser, and I'm an engineer by trade. He's trying to get started and value investing. Thank you both so much for all the great work you do with the website and the podcast. So I have a question. What metrics do you use to know if your portfolio is performing well or poorly? How do you calculate those metrics?

Starting point is 00:51:37 Thanks. All right, Eric. So a fantastic question. You know, I think the obvious answer is, well, what's your returns? But I think that people need to be very patient in the way that they judge their performance. If you're looking at it as my performance over the last year, that's very short-sighted, in my opinion. I think that you probably need at least like almost 10 years of a track record to really say, hey, I'm underperforming or overperforming the market.

Starting point is 00:52:05 and I think that if you kind of use that as your benchmark, I think that you can say with a little bit of confidence and probability that you are exercising good strategies. So that's kind of hard for a person. If you're just starting out and, you know, let's say you beat the market by 20% in a year, you might think, man, I got this thing figured out and I am great. I'm the best value investor. I'm going to be, you know, 10 times more valuable in my life than Warren Buffett is. but the fact of the matter is that that's just one sample in a much larger data set that I think that you need to take. So I would tell the person that if you are beating the market and you've only been doing it for a few years, you probably need to be more cautious than the person who's not beating the market because you might have this overconfidence in your abilities.

Starting point is 00:52:54 And I think that that's probably a bigger risk than having less confidence. And for the person who's maybe not beating the market, I would tell that person to continue to read as much as they possibly can. If there's one thing that we've learned from Warren Buffett probably more than anything else, it's that he's a total learning machine. The guy never stops learning. He reads pretty much all day long. Book after book, he is significantly older than us. So that's the thing that I've really learned from Warren Buffett than anything else is that he is a learning machine.

Starting point is 00:53:26 And for that person that's underperforming the market, I think how you start outperforming the market over the long haul is you've got to continue to educate yourself. and you've got to continue every single day to read something more and to learn something more. And when you do that, the truth is going to unveil itself on how you can capitalize on the markets better than the average. So Stig, I'm assuming you have something you want to say. Yeah. So, you know, I, Eric, I really thought it was an insightful question. And it's also a question that I've been asking a lot of times because, you know, how well do you perform? So back in the days, back when I was a college student, you know, I was forced to calculate, you know, alpha and beta.

Starting point is 00:54:03 and Sharps ratio, you know, especially Sharps ratio is an extremely popular measure of how your portfolio is performing. And just as a side note, back in the days, even though I'm not that old, I was actually forced to do it by hand. It's really not that fun. So what does my intense study of all these different methods? What does they suggest? And I can tell you that it's really, really simple.

Starting point is 00:54:32 the way I mainly judge my performance is just by looking at the S&P 500. And that might be something that's confusing you. Why I'm saying that? Because all of these different methods, you know, they are looking at volatility as one of the key things. I don't think volatility is that important if you invest like most investors do. Like I'm a pretty simple investor. I mainly buy equities and I don't use derivatives. is a year and use death.

Starting point is 00:55:02 So when you're not doing that, it's really not that important, at least in my opinion, if you are investing for the long run, to just compare it to this B-500. Now, this might be, using something like Sharpe's ratio that is including the risk free rate and volatility,

Starting point is 00:55:20 I think that's important if you are looking at other strategies. I would not say more advanced strategies because it sounds like it's necessarily a better strategy. But if you're looking at some of these heads funds, when they were going along, some positions, shorts other positions, and they might be using derivatives too. I guess, you know,

Starting point is 00:55:38 it does make sense to use a look at volatility because you can't withstand the same volatility. But I think that if you buy equities and you're holding for a long run, I think the market is actually a pretty good indicator. So I just want to highlight, and this doesn't necessarily have to do with how do you measure yourself

Starting point is 00:55:57 versus the S&P 500 or whatever. but Stanley Drunken Miller is a person that I really like to read what he has to say because he's very colorful in the way that he talks and the things that he describes. And he's a billionaire. I think his net worth is $2 to $4 billion, if I had to guess. He worked for George Soros, made a lot of money for George Soros. And one thing that I read on him, he said, the first thing I do when I'm assessing a person's past performance, I go to a down year whenever the market really had a strong crash and I look at their performance. form in storing that year. That's where I make the determination how good somebody is. And I found that kind of an interesting quote by him or statement by him because if you think of it from this

Starting point is 00:56:40 perspective, let's say the market goes down 50% this year. Let's just say it has a crash. If you have, if you're literally flat and you didn't lose 1% on your portfolio, let's say you were 100% in cash. And I'm not saying that's what you should be in. But let's just say that that was the scenario. and everyone else in the S&P went down 50%. You just beat the market by 50%. And I think a lot of people don't think about the importance of protecting their downside. And when you talk to really high-end money managers, guys that have really made it and made it consistently, they are all about protecting their downside.

Starting point is 00:57:17 Warren Buffett has a quote, rule number one, don't lose money. Rule number two, don't forget rule number one. Okay. And I think that that's a really important thing to gauge yourself off of and to think everyone wants to think in positives. Like I beat the market by 2% when it was up 12%. Okay. So you had a 14% return. But what they fail to talk about is how well did you beat the market whenever it crashed or it tanked or had a bad year? And so I think when you look at both of those, I think you're going to find that you're maybe a little bit more of a successful investor because you're constantly weighing what's my upside versus my downside. Okay. I'd stick. Yeah. And I just want to hard to let another thing because I think it's a really good point that you're having here in Preston what happens when the market is crashing because a lot of these strategies that you hear out there if you really dig into the to the real thing about these strategies you know you will actually go broke for instance during 2008 and I know it sounds strange but some of these very you know fantastic strategies you should just do this and go along this super short that and buy this

Starting point is 00:58:18 pota and sell this call whatever if you look at how how are the some of these these hedge funds actually been forming, they went broke because they couldn't stand the volatility. So that's why I'm saying, in my opinion, I might be comparing to SNP 500 or the world index, whatever I'm investing in. But I do think it makes a lot of sense. If you look at other types of portfolios and definitely funds to look at some of those metrics where you include the volatility, because a lot of these fantastic strategies, and I'm saying fantastic because I don't mean that, I mean, they can't withstand all that volatility. And I just think that's something to remember.

Starting point is 00:58:57 Now, when market's up, everyone can make money. And that's really not the time to compare. Just look at Berksa Hathaway. You know, they thrive when the market is crushing because they don't drop as much. And that's extremely important. Yeah. That's in Buffett even, yeah, Buffett even says that during a shareholder meeting. So when we were out at, he specifically said that.

Starting point is 00:59:16 He says, you know, in up markets, we might underperform just a little bit. But in down markets, we will outperform the market. So I think that that's an important vantage point to look at as a value investor. And when you're, you know, analyzing yourself and how well you're beating it or underperforming the market. I want to highlight something. So we talked a lot about this book, Flash Boys by Michael Lewis in this episode. And that's a book about high frequency trading and how it works. And if you haven't read that book or you're not real familiar with high frequency trading,

Starting point is 00:59:45 this episode might have sounded like a lot of Greek and like what in the world are they even talking about. What I'd tell you is go out and read that book. The book is highly entertaining. If you don't know Michael Lewis, he's the same author of Moneyball and like a lot of these books that were turned into Hollywood movies. So he's a fantastic writer. He makes finance. He's probably the best finance writer in the world right now. So if you don't want to read that, guess what?

Starting point is 01:00:09 Stig and I wrote a summary on it. So if you sign up for our reading list or our email list that we send out two times a month, no more than two times, you can download our executive summary of Flashboys as well. So just sign up on our list at our website, TheInvesterspodcast.com. If you'd like to record a question and get it on the show, go to Asktheinvestors.com, and you can record your question and get it played on the show. And if you're like Eric, we will send you a free sign copy of our book, the Warren Buffett Accounting book, if your question gets played live on the air. So that's all we have for you this week. We really want to thank Joe's for coming on the show. I mean, that was just a fantastic interview.

Starting point is 01:00:43 And I think anyone who's listening to that knows that he knows his stuff, not only from a technical side, but from a finance side. I was just, I was very impressed to say the least, and I know Stick was too. So thank you so much for being in our audience. If you have time, go to iTunes and leave us a review that really helps us out, and we just really appreciate everything that you guys do for us. So we'll see you guys next week. Thanks for listening to The Investors Podcast.

Starting point is 01:01:05 To listen to more shows or access to the tools discussed on the show, be sure to to visit www.theinvestorspodcast.com. Submit your questions or request a guest appearance to the Investors Podcast by going to www. www. asktheinvestors.com. If your question is answered during the show, you will receive a free autographed copy of the Warren Buffett Accounting Book.

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We Study Billionaires - The Investor’s Podcast Network - TIP 036 : Starting His Own Stock Exchange - with Jos Schmitt (Investing Podcast)

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