Spoofing Is Not Just Bluffing: No Zero-Sum Game in Trading

Thom Thompson

Thom Thompson


Stepping away from the increasingly settled legal issues around spoofing, we see that business ethicists are also addressing the moral and economic dimensions of spoofing. When we spoke to market participants and experts, defenders of spoofing often analogized it to other trading practices or strategies that are admittedly deceptive. 

Admitting that spoofing is a form of deception is the jumping off point for considering the moral dimensions of spoofing. A common example is iceberging.  An iceberg order is an automated order type that submits parts of a trader’s total targeted order seriatim, so that a latter part of the order is only submitted once a former partial order is filled. Iceberg orders, so long as they do not obtain price-time matching priority, are widely sanctioned even though the trader is deceiving the marketplace about the total size of the order. 

Spoofing is often compared to bluffing. Bluffing can occur across all dimensions of human interactions, and is of course common in business negotiations. Because bluffing in everyday  dealings is so widespread, everyone expects that claims might contain an element of bluff. Only the most egregious cases of bluffing — or, rather, only bluffing that leads to the most egregious or dangerous results — are generally considered to be impermissible.

The apogee of bluffing is the game of poker. In a recent Business and Professional Ethics Journal article, Professor Gil Hersch of Virginia Tech skewers the argument that spoofing is a form of bluffing and should be permitted in futures trading much as bluffing is tolerated in poker. 

Hersch notes that poker is a game with no consequences beyond the gains and losses of the players that sum to zero. Futures markets, on the other hand, are conceded both popularly and in the law to have a greater economic purpose than poker by offering the opportunity for commercial firms to hedge risks and by helping market operators to establish the value of the commodities through price discovery. Futures markets are not intended to be a zero-sum game. Bluffing is permissible in poker because everyone who is playing the game not only is aware of the rules that allow bluffing, but also because the game is played only by people willing to play the game. 

Hersch’s article responds to several points raised in an article by Ricky Cooper, Michael Davis and Ben Van Vliet, “The Mysterious Ethics of High-Frequency Trading,” published in 2016 in the Business Ethics Quarterly. The article ranges over a number of high-frequency trading topics, touching on spoofing only briefly, but noting that spoofing was more or less impossible before the introduction of automated anonymized trading. The authors view spoofing, along with some other practices that other observers find questionable, to be simply part of the normal evolution of the markets. The article seems to argue in favor of allowing spoofing because it can be seen as a force that will attract innovation to meet the challenges presented by spoofers. According to that view, spoofing, like other evolutionary upgrades, should be permitted because it leads to improvements in market quality, which mean lower volatility. 

Such so-called quality arbitrage should also contribute to more accurate price formation in the markets as more and better technologies are devoted to trading. Hersch counters that notion when he points out that spoofing degrades the reliability of publicly available market information by displaying prices that traders do not want to trade at alongside prices that other traders do want to trade. “Spoofing, specifically, does not increase market efficiency,” Hersch says. 

Cooper and his co-authors also seem reluctant to condemn spoofing because they fear the types of rules and regulations that might be imposed on the markets. But that sounds like saying we should not have highway speed limits because radar technology can provide misleading results about how fast a car is going. The market evolution dynamics argument can be employed on the regulation side to say that markets that become inefficient — because of inappropriate or overly harsh spoofing regulations — will simply become unused.     

It is hard to see how increasing the number of false signals in a marketplace could lead to an increase in the efficiency of that market’s operation. Technology that would be used to sort out false from true market signals might be more usefully deployed supporting trading in other ways. 






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