Sunday, April 12, 2015

Financial markets arbitrage fact of the day

From Sendhil Mullainathan's article in Upshot lamenting the human resource mis-allocation into finance in pursuit of careers that involve rent-seeking, transferring wealth from others to themselves, instead of wealth creation,
Arbitrage is valuable only to a point. It has a gold rush element with prospectors racing to get to the gold first. While finding gold has value, finding gold before someone else does is mainly rent-seeking. The economists Eric Budish at the Booth School of Business and Peter Cramton at the University of Maryland, and John J. Shim, a Ph.D. candidate at Booth, have shown in a study how extreme this financial gold rush has become in at least one corner of the financial world. From 2005 to 2011, they found that the duration of arbitrage opportunities in the Chicago Mercantile Exchange and the New York Stock Exchange declined from a median of 97 milliseconds to seven milliseconds. No doubt that’s an achievement, but correcting mispricing at this speed is unlikely to have any real social benefit: What serious investment is being guided by prices at the millisecond level? Short-term arbitrage, while lucrative, seems to be mainly rent-seeking.

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