What We Can Learn About Market Liquidity By Looking At Everyday Life

that I think is one of your favorite themes. Okay, because you said that, I know exactly what it is. Um, so we don't have to play the guessing game like we sometimes do. No. Um, it's liquidity, right right? Why is this one of your favorite topics? It's funny, we've talked about it a lot, like the sort of it's particularly the bond market, bond market, liquidity, the market structure. We've talked about it a lot, but I guess I've never asked why is this a subject of such fascination

for you? Okay, I can tell you exactly why, because liquidity is almost the essence of markets. Like, if you think that a really simple definition of liquidity is the ease of buying or selling something maybe without affecting its

price too much, that's exactly what markets are, right. And the other thing is you get all these really interesting um motivational dynamics at play and lots of design issues, And even though you can think of the perfect market structure to suit a partricular asset class or transaction, there might be different players involved who don't want to see that market structure come to fruition. So it's it's a

fantastic mix of human behavior and markets, I think. So basically, this idea of liquidity the ease with which one can buy or sell an asset at a given price, if we can understand why it exists or why it doesn't, then we could sort of understand the entire structure of the market, who the different players are, what their different motivations are, etcetera. That's exactly right. Are you telling me we have someone on the show today who knows the

answer to this question. Well, we might, I don't know, really have the answer, but we're going to try and get a closer to the answer. But I think we're gonna do it in a cool way because obviously, normally, you know, we might talk to someone and we have who's like an expert in how the bond market works

or stock market structure. Today we're going to talk about how this concept of liquidity and market structure exists in our everyday lives, so not just in what we call financial markets, but in the sort of how we how we see this concept everywhere and the things we buy, transact in, etcetera. That sounds absolutely amazing, and I hope we can come up with some real life parallels for for instance, lack of liquidity in the corporate ball market.

That's what I'm hoping for. I'm hoping that by understanding how liquidity exists in everyday life or lack of it, that we can then translate that back into maybe some new insight into the financial world. So, without a further ado, I want to bring in our guest. His name is Karthik Shah Shudar. He is the author of Between the Buyer and the Seller, a book that examines some of these topics. Karthik, thank you very much for joining the Odd Lots podcast. Hi to Hi Trizzy. I'm glad to

be here. So Karthik, What did you think about our introduction? Did you think that Tracy's explanation for why liquidity is such an important aspect of the market to understand sort of parallels with why this interests you? Absolutely? I think she's kind of bang on, and I think the definition of liquidity she used is also like precisely the one that I use in my book. But yes, liquidity, I think is an important topic because it's it's around us everybody.

It's around us in pretty much every market that we happen to transact in on a daily basis, and like as Stacy just explained, it's a wonderful combination of markets and human behaviors. So we always used to write that liquidity is kind of a nebulous concept and people have different definitions of good and bad liquidity, So why don't we just jump right into it to clarify the concept, give us a real life example where liquidity is an issue or that tells us about one specific aspect of liquidity.

So I'll start with liquidity itself. I'll start to the quote that I have that I begin my book with. It's by Michael Lewis, and it's from Flashboys and He says liquidity was one of those words Wall Street people through around when they wanted the conversation to end and for brains to go or date and for all questioning to cease. This book is basically an attempt to kind of like dake liquidity beyond its kind of Wall Street origins. I myself have a little bit of a background in

Wall Street type. Briefly, you work for a couple of years at Goldman Sacks, and now I'm working in the financial services industry, working for a company called our Kra where we're trying to revolutionize how client engagement has done in investrent banks. That aside, I think to come coming back to liquidity, to take a very simple example that I think a lot of us kind of deal with every day. UH. It's to do with the market for uh what it call is motorized local transportation. That's cabs

and cab like uh instrument pretty much everywhere. So one of the biggest kind of UH. It was actually one of the motivations from my book in terms of like one of the markets that have seen a massive revolution and liquidity is the way is the cab market well, which I kind of existed in the fairly low level equilibrium for a lot of years. I mean different the regulation was different in different cities, but pretty much each

city was broken in one way or the other. Like for example, in a lot a lot of cities in India where I come from, Uh, it's common for taxi drivers to refuse you are right once they know where you want to go. Or for example, if taking the example of New York City in the mornings, if you're trying to take a taxi from midtown to downtown, it's highly unlikely that you're going to find one. This is a market which was kind of very, very inefficient. It

was people. I tried to regulate it in the in a whole lot of ways, but like none of it had really worked out. And then comes along this company called Uber, which using an app and using this concept of dynamic pricing, which is highly controversial, but I mean I I absolutely love it by the way they have kind of changed the way, changed the taken the liquidity in the cap market to a whole new level. So

there's several ways. I think obviously it's great that we're starting with the Uber discussion because it's probably one of the most clear ways in modern life in which something we just took for granted. Uh, you know, putting out your hand and getting a taxi is really a sort of quasi financial market, and the new market has changed. So there's dynamic pricing. There's the fact that you know,

the ubers have to take you everywhere. You can sort of see the supply that's on the road more vividly, because you know, you're not just sort of wondering when a cab is going to come around. You can set up timing very well in your view. Hey, what is the most sort of radical thing about Uber? Perhaps it's

the dynamic pricing. And then you know, since we're looking for financial market lessons, what is sort of is there an Uber equivalent in the world of finance that we could say, Okay, this thing that Uber does is similar to this on an exchange. Good question. So the first party guard bangled. I think the most important part of is UH dynamic pricing in the financial markets. I can't

think of a direct parallel right now. I can't think of a direct part where like where let's say an intermediary Uber is also an intermediary between the cab driver and the passenger, where an intermediary uses kind of dynamic pricing to kind of, uh make the markets more efficient for everyone. I think UBER one of the work of the taxi market is that, like it's extremely fragmented when

it comes to both space and time. Like the market that you see is limited by the taxis that are you as a passenger, you see the taxis around you at that point in time. So there's massive fragmentation on

two dimensions, and that kind of fragmentation. I mean you can say that like even the regular stockore bond markets have that kind of fragmentation because they are like there are like you have like multiple venues and you have like kind of there is fragmentation through the day because there are some market makers who operate more heavily at different times of the day and volume changes through the

day and so on. But the key difference between Uber and the kind of first stock market is that, like in a stock market, by providing supplying supply in one place, you're not taking supply away from another place. So for example, if if I am Golden SAX and I'm participating right now in the New York Stock Exchange, that doesn't come at the cost of my participation at this point of time in ASDAC, if I had to kind of choose between one or the other, then like it would have

been more like Uber. So in that sense, I feel like I got It's hard to at this moment draw a direct parallel between between Uber and financial markets, because Uber is a far more complex problem. I would say. So Uber is a great example of a sort of technological change that has arguably boosted liquidity or the availability of a certain service. But there are existing assets or services out there that have also resisted technological change, UM, And I think you brought one of them up in

your book, And I'm particularly interested in this. The real estate market, the concept of all these real estate agents who find you a house or an apartment. There have been multiple attempts to make that market more liquid, either with online platforms or some other new big ideas, and they seem to have largely failed. So why is it that liquidity hasn't come to the property market and we all still have to pay, you know, obscene commissions to

New York real estate agents. The thing with the real estate market, UM, is that like the way in which the new players like take somebody like a rape frill in the U S or housing in India. The way they are approaching the market is very different from how

your local real estate agent approaches the market. So here I bring in an analogy in the book from the Financial market Tan right to distinct between what I call us brokers and clearing houses for this podcast audience, I don't think I need to explain those two terms, so the difference between your tradition. Actually, I do think a quick definition of the two terms would be able to focus. I get confused myself, and I think I suspect we

have a lot of listeners that would like a clarification. Okay, So broker's basically take a mandate on behalf of a client and take responsibility for executing the trade on behalf of the client. Clearing Houses, on the other hand, don't really take them, but they don't work for a particular client. They just provide a platform where clients can come on

and find each other and transact. So the way the traditional real estate industry has been set up with the broker's brokers and brokers they take a mandate from me. They I tell them I want a two bedroom apartment on the Upper West Side and I'm willing to pay up to two tho dollars a month, and they will take that mandate and possibly try and find me how if one exists, if there is a supply for it,

and so on. On the other hand, if you take something like housing and taking any Indian example, because that's that's what I'm most familiar with, but what they do is it's an online portal where I, as a seller of a house or a landlord, can list my house, and you, as a buyer or a tenant, can come and search for listings. So so red fin or Housing doesn't take a mandate on behalf of the client, so

they just kind of enabled transactions. And what happens because of that in the real estate market because like no two houses are similar, and there's a lot of a lot of quirks, and like people have weird preferences. I think what's happened is that, like it's very hard for the clearinghouse to kind of really offer the precise, like offer a really short list. So if you want, if you have a particulars a set of preferences, and you might put in the filters on the website and you'll

get a really long list. In the effort required and going through that and and eliminating the stuff that you don't want as pretty high. So on the other hand, a broker as as a human being, his advantage over the platform is that, like he can really represent you. You can clearly communicate to him what you're what you're looking for, and he can kind of find you precisely that kind of UH deal and so on. So in

that sense, they have been able to add value. And also, as I mentioned in the book, especially in the India, brokers have kind of leveraged these online platforms because they I mean, it always happens in the stock market where your local broker goes and participates on your behalf on

the New York Stock Exchange. So similarly, in the property market you have brokers taking their clients mandate and going to one of these UH websites to find a deep It is interesting hearing this explanation because, you know, once again going back to sort of traditional financial markets, one of the themes that we've talked about is UH. You know, the degree to which the bond market is characterized by such a greater diversity of instruments than the stock market.

And so hearing you explain, you know, each each apartment or house that someone would want to buy is probably going to be a little different, even if they're sort of can be grouped in general categories. The you know, there's not any two apartments are not as fungible the way you know, sort of every other every share of Microsoft is basically identical. Wait, so, I mean, I've heard that explanation for bond market um issues and it makes

some sense. But the other thing to consider, and I'm pretty sure we've talked about it at various points on all thoughts, is the motivation of the players involved. So a lot of people will say that the bond market is resistant to change because, for instance, the big dealer banks, the guys that buy and sell bonds on behalf of their clients, don't want to give up a really lucrative

form of commission. So cartex I'm just wondering, in terms of everyday examples of market structures or liquidity, is there one that springs to mind where the participants in it have been, you know, basically unmotivated to change their ways. I'd probably go back to the kind of the taxi example because in a uber obviously you know what, it's

been fairly controversial in London where it now live. Ugle kind of has been effectively banned in its uh fairly recently and as a huge controversy going on over there

and there. I think it's more to do with the fact that the fact that the traditional taxi industry has been, like they have immense lob being power, and they have been kind of resistant to change in terms of like they have been, uh, have been a few ways in which they have been in afficiate, Like for example, even in the most well regulated markets, you have the problems of taxis not wanting to go into certain parts of town, that and so on, so so from so, what's happened

there is that, Like, I mean, one of the reasons you see the regulatory backlash against Tuba is because the incumbents kind of are kind of afraid of this threat time they want to kind of because they're sitting on fairly valuable assets. They're not valuable assets in terms of like as intermediaries, which is what it is with the banks in the bond market. Here. It more it is in terms of like they're sitting in terms of valuable assets as the right to sell in this particular market,

think of the New York taxi Medalian for example. So so so they have been stymying all efforts to kind of reform the markets because of their unwillingness to change. But but yeah, but because we were shown away out in terms of like it's increasing efficiency, it might not be very h that might not be a fight that might last too long, hopefully. Let's see now speaking of real estate, Um, one of the you know, with the rise of the Internet, one of the big theories that

people had was that geography would be destroyed. So we can all work from anywhere. We could work from home, we could work from wherever, So there's no reason to live in New York or Silicon Valley or Washington, d C. Or l A. And yet the opposite seems to have happened, and you wrote about you write about this in your book, where in fact, people, you know, cities and urban centers have become even more and more important for the economy.

Despite what sort of this theory of disrupting geography would say, what what happened there? Why has that idea that the Internet would sort of subvert traditional geography not really played out? Okay, so I think what we kind of ignored us in terms of to use some Silicon Valley speak here, uh

that cit saide if it to leave platforms. Cities can be viewed as platforms that connect employees on one side and businesses on the other, and like at a different level, they connect consumers of local goods and services to produce us of local goods and services such as restaurants and so on. But we leave that aside right now. So what people had kind of vastly underestimated was the importance of proximity in terms of getting work done and so on.

So what people have assumed is that with Internet there is going to be like there is, it is going to be possible to kind of uh communicate seepless Lee across great distances, and so you can sit in your farm and Wyoming and kind of work the same way as somebody sitting in his office in San Francisco can.

So I think that was something people assumed and that has not come to be because like, there is always a transaction cost involved in talking to somebody who's not next to you, So you'll have either have to call the tye and make sure he understands what you're saying, and there can be various kind of places where like

coordination across distance can kind of falter. And because of that, I think, like people companies have recognized the recognized the need to kind of be in one place and so on, and so you have like the despite how expensive San Francisco has gotten nowadays, like people still continue to move to the Bay Area and so on, because that's where the kind of the liquid market for the skills that

people have. This is making me feel bad about working from our Abu Dhabi satellite office of my living room. Um Karthik, I have a slightly more theoretical question for you, to what extent do systems of buying and selling reflect the nature of the underlying assets, Like if you have a bunch of really diverse things that are actual that fungible, and to what extent do they reflect the nature and the motivations of the parties involved, and which one would

you give more weight to. That's not a very easy question to answer. I think it's it's highly interdependent. I think how a market has developed historically is a function of the kind of assets that are being created in that market. So, for example, I think one of the one of the if you have things that are like easily fungible, which is easy for a lot of people

to provide. You would have seen that the market would have evolved such that like the overall transaction cost and even the overall transaction cost is pretty low because because competition drives the bittern ask close together when you have lots of products which are pungible, which can be easily treated. On the other hand, I think that this is something I talk about in my in the first chapter in my book, which unfortunately you're my u S readers may

not really appreciate. It's about the markets in football players. Football as an association football, where you have because the players are not fungible at all, No two players, especially at the highest level, are very similar to each other. You see the deals that happen that are either extremely expensive. We had recently a case of a footballer going UH for some two hundred million euros between a club in

Spain and a club in France. So it's like, on the other hand, you can have equally highly rated footballer is moving between clubs without any transfer feedboard, so it's a highly uh. The kind of when you have less fungible kind of assets, the you the deals take place at either the bit or the ask and sol like you have a very a bit of a crazy market. But I think that the that actually drives the behavior

of the that drives behavior of the intermediaries. I mean, like, if you're let's say, an intermediary who if you're making market in markets and stocks, and you decide to behave as if like stocks are the stocks are a non fungible item, might try to charge high bid asks rates and things like, you will be easily priced out of the market. So I think it's the nature of the

asset that's been traded that drives the nature of the market. Okay, I want to ask about another what one might call a market in which no two of the assets are fungible, but which has been massively disrupted by the Internet, and that is the dating market or the marriage market, or whatever you want to call it. Obviously extraordinary change in behavior with the rise of Tinder, where someone can just sit on their phone and arrange numerous dates in the

span of a few seconds or minutes. As far as I know, I've never you know, I've never used it. But yeah, whatever, I'm way too Oh, I'm way too I'm way too all I missed all of it versus the old days, where I guess theoretically you had to go to a bar and it was very slow, cumbersome process to meet people in theoretically arrange dates. Tell us about this market, what are some of the lessons we can learn in a liquidity from the way from the

dating market? So the dating market is again quite uh, quite interesting, especially the way it has kind of ill again think the Indian example, because it's a bit more interesting and less liquid than I think in other places. What do you have in India is because of historical or cultural works, there's a massive gender imbalance on on on apps such as the Tinder, So I think it's uh somewhere around eighty twenty or in favor of men

or worse. So what happens is that neither let's just assume hetero sexual relationships here, So what happens is that neither men nor women have a good time in the market. Because when you have like let's say five men for every woman or for ten men for every woman in the market, well, if you are I mean tender to some extent, is a little less bothersome compared to other apps, because you only kind of there's only a kind of only when there's a mutual like that, like you get

a notification. But what happens is that if you're a woman and there there are like lots of men in the market but few other women what have, you will end up getting a lot of kind of interest from a large number of men, and you know for sure right up front that like maybe of them are not your type. So you have to you have the job of kind of sifting through so many of these profiles and in order and to somehow find the needle in

the haystack. On the other hand, if you're a man in such a market and you what you not is that there are like so many men for every woman here, then you need to someone stand out and standing out in this kind of a market where your competitors are

also evolving and so on, it's not easy. So so in that sense it's a very while theoretically it is, like I mean, it's all the liquidity problem to some extent in that like now, if I go to a party and as which on Tinder, I know that who else is on I can Let's say I support somebody at a party and want to check her out and I can see if she's on Tinder, which where she probably will be she's single, and then like maybe express

interests there without facing the fear of rejection. So in that sense, it's kind of increase the volume of trading or volume of interest in the market. But on the other hand that it is still not completely solved the market because there is this whole issue of what they

call us congestion. That's that's fascinating. The idea that there's sort of imbalance creates a broken market, and it sort of explains why bars, you know, often I don't know if they still do, you know, they'd have like a Ladies Night, Ladies Night to pay a cover, women got in free in order to you know, keep keep the populations balanced, because with imbalance it doesn't work out very

well for either side, you know, Ladies Night. Sorry, I just have to interject, Ladies Night is alive and well in Dubai and Abu Dhabi, and that's because the gender balance is so extreme. There are so many more men than women. Here, karthact before we go, we just have time for one more minute. Give us one quick other example from your book. What's just one more thing in modern life that we see. That's an interesting example of

liquidity providing an action. So one more way is I think i'll answer this question at a bit of a

meta level. So, uh, you take the publishing industry itself, right, So if you were to think of in the olden days before Amazon, what happened was if I were to want it to publish something in the book form and have it read by you, the transaction costs would have been immense in terms of because first I had to kind of put it on to get it printed onto a paper nicely bound, and then like it has to kind of go through the entire supply chain of books, and then my publisher will have to kind of do

the marketing to make sure that you know that my book exists and so on. So so there was a lot of cost transaction costs involved in terms of publishing and consuming books itself. I think what's happened is that with the again, this is a this is a market that's only like become partly liquid and just a very

long way to go. As I've figured out after kind of having published the book, is that like after Amazon came about and kind of released the concept of the Kingdon where all the dead prey in the publication process, it's taken away. So it's not funny what portion of the cost of my book goes into modifying and moving paper.

And if you take that out, the kind of the amount of the value that the reader pays that can be captured by the writer is immense and so effectively the once you have the kind of the paper taken away, I think that what did the biggest kind of transaction costs between the buyer and the sellers that the readers should know that the book exists sense on which is again fairly big cost. But still I think there's a market which is on its way to becoming a bit

more becoming more liquid. Karthec shas are fascinating conversation the author of the book and question between the buyer and the seller which explores concepts of liquidity and market structure in everyday life. Fascinating conversation. Really appreciate you coming on the show. Thanks True, Thanks du So. Tracy. Do you think we are we are any closer to understanding the history of market liquidity? I mean, I think we may be muddling the concept of liquidity with just service provision

in that conversation. But that said, the thing that's endlessly fascinating about liquidity is the fact that everyone has different definitions and views of it. So even when it comes to the corporate bond market, you have all these investors or traders who will say anecdotally that liquidity has deteriorated in the market. I was speaking to one credit guy today who told me it took him a week and

a half to sell one million worth of bonds. And then you have the regulators who will come out and do these studies and say, well, based on these hard data points, we see no problem with liquidity whatsoever. And it's just really interesting to me how you can't really get to the bottom of what ostensibly should be a

fundamental concept in markets and finance. Absolutely, but you know, I think like all of those different examples, some were more like financial markets than others, I think they tell us something profound, which is that I think if from a naive point of view, you could imagine that with the Internet, everything could suddenly just become a liquid market where there's no more need for brokers, there's no more need for anything. You just put your information out there.

I'm a person working in here I want to I have these skills, or I'm looking for this kind of person to date, or I'm looking for this kind of apartment or whatever it is, and even and uh, but it's still really hard and and different markets really do have fundamentally different structures, or at least they have players, as you are alluding to. In those markets that have

can prove pretty effective at resisting change. And so in the same way, we just sort of imagine that in theory, electronic trading markets will disintermediate everything and you can just buy whatever you want by putting it out there. Uh, It's really not that simple. Yes, And maybe the lesson is that even in a technological age, you can charge for liquidity as a service for certain assets, I guess right.

And then even in a technological age, there people have ways of sort of preserving the existing order and not everything is just not everything is just so simple as a you know, a gigantic eBay market or whatever it is. Right, if something hasn't been disrupted before, there might be a reason for that. That's well play, all right, should we leave it there, Let's do it. This has been another episode of the Odd Lots podcast. I'm Joe Wisenthal. You can follow me on Twitter at the Stalwart, and I'm

Tracy Alloway. You can follow me at Tracy Alloway. And you can find Karthika on Twitter at Karthik s. And you can find our producer Sarah Patterson on Twitter at Sarah pat With two teams to a