I spend a fair amount of time researching this question, because it’s important to me and to my coaching clients. The answer I get is always the same. Yes, the market is rigged, but the market is so vast and complex that rigging doesn’t prevent anyone from making a good return, provided that they don’t stumble into a specific scam.
I recently came across an interesting answer on Quora, and I want to share it with you while giving full credit to its’ author, Code Boyte. Here is what Mr. Boyte had to say on the subject.
“The question is too broad. Which stock market do you believe is rigged? And what is your definition of rigged?
Option 1: Do you not know enough?
If by rigged, you mean that there are actors who are part of the market who know more than you and use that information to make money from you, then that happens in every market all the time. But that’s not rigging the game, that’s just playing it better than you.
A market is basically a gambling hall where you’re betting on the information you have and other people are betting on the information they have. If you have better information and know what to do with it, you’ll generally win more often.
It’s like a horse race. If I go to the track all the time and know a lot about every horse, every jockey and how the weather affects different horses, I’ll be more likely to win a bet of which horse will win. Especially if I’m betting against you and this is your first time at the track.
If, at the horse track, you decide to bet on Warhorse because he won the last 6 races, but I know that he only won in the sun when the track is dry and that today it’s raining, I have an advantage. If I also happen to know a guy who watched Warhorse practice yesterday and he told me it looked like Warhorse was limping a little bit, I’ll again have an advantage you don’t have. So, while you and the other uninformed bettors might think Warhorse is a lock so you bet on him, I’ll likely take a different horse and be more likely to win. Is the horse track rigged? Or do I just have better information than you do?
Option 2: Is it actually fixed?
The horse track also opens up a couple of other options for exploring the idea of a rigged market. Let’s say that you go to the track and it’s run by mobsters. They fix every race. They make sure that the horse they want to win is the one that wins every time. How do they do that?
They fix the races by threatening the jockeys. They tell jockeys which horse will win so that the jockeys who aren’t supposed to win will slow down their horses if they’re ahead. They can’t make it happen every time because sometimes the horse that’s supposed to win will come up lame, sometimes the jockey won’t be able to slow down a horse running too fast, and sometimes other problems will happen. But they’ll control it most of the time.
Could that work in the real world? Probably not. The heads of different markets would have to coordinate with thousands of CEOs, determining who can make certain amounts of money this quarter, who would make other amounts of money other quarters, etc. The only way for that to work would be to create a group of people so big that eventually someone would get angry and tell the world it was happening. The odds of this happening and no one talking about it are too small, thus this is highly unlikely.
Option 3: Is it rigged for a few companies?
If you want to talk about how certain companies have figured out how to rig the game or certain companies have figured out how to play games that give themselves a better position, then it’s likely we’re in the right conversation.
The reality is that any market is too big to be completely rigged. Just like it’s unlikely that even an averaged sized horse race is rigged these days. It would be too obvious, too quickly.
But, like different horse tracks, can the stock market law makers and enforcers choose to create rules that make it easier for certain companies to exist/grow and harder for others? Sure, that happens all the time.
Sometimes that happens on purpose. For example, in the US, the JOBS Act made it easier for smaller companies to go public without needing to disclose so much information. It also made it easier for smaller companies to stay private longer by continuing to raise money from outside investors. Did the government just rig the game? Yes. But they did it on purpose, trying to spur more growth.
Other times it happens for a bigger reason. When Lehman Brothers, Bear Sterns and AIG were failing in 2008, the US government decided to step in and bail the companies out. They let Bear Sterns and Lehman Brothers go out of business while giving a gigantic loan to AIG to keep it in business. Was that rigging the game? Yes. But they did it because most of the economists felt that if AIG went out of business, so would thousands of other businesses, creating a cascading effect that would lead to worse problems for the economy.
In at least a few cases, the market is rigged for certain companies.
Option 4: Are some people cheating?
The fourth option, which happens much more frequently than people would like to admit and is enforced to varying degrees around the world, is straight up cheating. This isn’t the stock market being rigged against you, but rather you being swindled by one actor who is cheating.
It typically happens in one of three ways.
First, and the least bad, is a company that doesn’t really know what to do next. They’re a public company that is going out of business but they’re trying to stay in business. At a certain point, sometimes the executives will just give up keeping the business alive and will use the investor money to give themselves nice salaries, fly around in corporate jets, go on boondoggles, etc. This isn’t really cheating, technically, but it’s also not really following fiduciary duty. As an investor you might call it cheating, but you’d have a hard time proving most cases in a court of law. A lot of corporate CEOs in the US work this way by taking huge blocks of stock options, even when the company fails badly under their leadership. They get paid simply for sitting in the seat, even if they weren’t worth the payment they’ve been given.
Second, and middle on the bad scale, is what’s called “insider information”. This is probably the most common form of rigging or cheating in the market. Let’s say that you’re an employee of XYZ company and I’m an investor. I know that your quarter ended on May 31st and your company will report quarterly profits on June 28th. If the company is fairly small, and you’re a fairly high up executive, it’s likely you’ll know how your company did before it’s reported to the market publicly. If you were expected to make $10MM this quarter, but instead your company made $15MM, you’ll likely know that. If you tell me, the outside investor, about the huge increase in sales this quarter before the rest of the market knows, you’ve broken the law. If I go buy stock in XYZ company because I know the stock is going up, I’ve broken the law too. I’m using information that no one else has in order to buy the stock before everyone else gets the information. That’s cheating. At least according to most western stock exchange laws.
Third, and easily the worst, is when you completely misrepresent your company. If you go public saying that you’re going to completely change the way money is loaned on a peer to peer basis, but you never do that at all or your company really sells furniture, then you’re just trying to scam people. This happens more regularly in emerging markets (A goring concern) or brand new economies (internet in the 90s or oil in different booms and busts are examples in the US) but does also happen in large markets (Bernie Madoff). Different players all try to cheat in different ways.
Conclusion
Is the market rigged in some overarching way by a cabal of evil overlords? Unlikely. It’s more like every person trying to find a way to make a buck and some take it too far. There are simply far too many people playing the market, all trying to get an edge, for it to be rigged.”