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April 1, 2001

Early Warning System For Wall Street Traders: Market-Moving Data Surveillance and Retrieval

By Peter Chapman

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  • Early Warning System For Wall Street Traders: Market-Moving Data Surveillance and Retrieval

On June 5, 1995, David Leinweber, then a quant at First Quadrant, was short 250,000 shares of Lotus Development Corporation. That day, IBM launched a hostile takeover bid for the software developer. Lotus' stock price doubled and Leinweber took a bath.

"That was not a good bet," Leinweber recently reminisced.

Leinweber blames the lack of an early warning for the Lotus snafu, but claims a new service he has started will give traders information that will help them avoid a similar fate.

The former trader now runs Codexa, a Pasadena, Calif.-based start-up that offers an Internet surveillance and information retrieval service. Its software combs approximately 10,000 Internet message boards, chat rooms and whisper sites daily for market-moving information and earnings estimates. This is stuff that isn't provided by the traditional market data vendors.

It then evaluates, classifies and distributes the data to clients like NDB Capital Markets, Jefferies Group, Barclays Global Investors, Philadelphia quant shop Aronson + Partners and unnamed New York Stock Exchange specialists. "We provide focused, continuous surveillance of the deep Web," said Leinweber, who is chief executive at Codexa. "The information can be used by any transaction cost-sensitive trader." Codexa claims 100 portfolio managers and traders use the system.

Leinweber says the Internet revolution has put equity traders on equal footing with equity trading pros as far as access to information is concerned. But because the online public trades fewer stocks it has an easier time staying on top of them. It is able to react faster to new information.

As a result, the pros are not hearing about the IBM-Lotus deals until it's too late and are increasingly whipsawed by intra-day stock price volatility. That volatility is a function of the speed in which information is impounded into stock prices. That speed is a function of the explosion in both online trading and the number of stock trading oriented Web sites. More traders with access to more information translate into more frequent spikes in prices and volume.

Specialists, Nasdaq market makers, quants, indexers and even plain vanilla fund traders are getting beat up by what they don't know, according to Leinweber. "The hedge funds that trade very fast - in and out - can keep up," he said. "The slower ones get hosed."

Message boards dedicated to specific stocks have mushroomed on such Web sites as Yahoo! Finance, RagingBull and Individual Investor. There, retail traders post messages with hard information, forecasts, their thoughts, gossip and rumors. A recent posting on the Apple Computer message board at Motley Fool's Web site by ColdCuts, for example, revealed the author had conducted a survey of shipments by online retailers of the Mac computer line.

Whisper sites such as earningswhispers.com, whispernumbers.com, and streetIQ.com provide earnings estimates that often diverge from the Wall Street consensus. Whisper numbers became very popular after three academics produced a study in 1998 that showed they were more accurate than the quarterly earnings projections of brokerage analysts.

In an ironic twist, Codexa recently signed an agreement with First Call/Thomson Financial to distribute the estimates aggregator's numbers. The First Call numbers compete with whisper numbers. First Call, in fact, sponsored the above-mentioned study in a failed attempt to discredit whisper numbers.