The Ghost in the Machine: Are Modern Trading Apps Just 1920s Bucket Shops in Disguise?

The rise of financial technology, or fintech, has been nothing short of revolutionary. With a few taps on a smartphone, anyone can now participate in the global stock market, a privilege once reserved for the wealthy or the well-connected. Companies like Robinhood have built empires on the promise of “democratizing finance,” offering zero-commission trading and a user-friendly interface that has attracted millions of new investors. It feels like a paradigm shift, a genuine leveling of the economic playing field.

But is it? A recent, incisive letter to the Financial Times by Andy Swan of Hong Kong suggests we should look closer, urging us to pull back the curtain of modern fintech and examine the machinery whirring behind it. The letter draws a chilling parallel between today’s commission-free brokers and the notorious “bucket shops” of the early 20th century. This comparison, rooted in the classic trading book Reminiscences of a Stock Operator, forces a critical question: Is this new era of trading truly empowering the retail investor, or is it simply a high-tech repackaging of a century-old conflict of interest? As the old saying goes, “the more things change, the more they stay the same.”

In this deep dive, we will unpack this powerful analogy. We’ll journey back in time to understand the predatory nature of bucket shops, dissect the modern business model of Payment for Order Flow (PFOF) that powers “free” trading, and ultimately assess whether the ghost of the bucket shop still haunts the modern stock market.

A Trip Back in Time: The World of Jesse Livermore and the Bucket Shop

To grasp the weight of the comparison, we must first understand what a bucket shop was. In the late 19th and early 20th centuries, before the era of stringent financial regulation, bucket shops were pseudo-brokerages that preyed on small-time speculators. When a customer placed an order to buy or sell a stock, the bucket shop never actually executed that trade on a real exchange like the New York Stock Exchange. Instead, they “bucketed” the order—essentially taking the other side of the customer’s bet.

If a customer bet that US Steel would go up, the bucket shop bet that it would go down. The entire operation was a zero-sum game played directly between the house and its client. The shop’s profit was the customer’s loss. This created a fundamental, inescapable conflict of interest. The house had every incentive to see its customers fail. They would manipulate price quotes, invent technical glitches, and do anything in their power to ensure the odds were stacked against the investor. According to a historical overview by the SEC, these shops were a major problem that early regulations sought to eliminate.

This is the world that forged legendary trader Jesse Livermore, the protagonist of Edwin Lefèvre’s biographical novel. Livermore’s early career was a masterclass in beating the bucket shops at their own game. He was so successful at predicting short-term market moves that shops across the country eventually banned him, famously calling him the “Boy Plunger.” His story illustrates the purely adversarial relationship: it wasn’t investing; it was a battle of wits against a house that was actively betting against you.

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The Fintech Revolution: How “Free” Trading Really Works

Fast forward a century. The world of finance is now dominated by algorithms, fiber-optic cables, and sleek mobile apps. The promise of zero-commission trading has become the industry standard for retail brokers. But this raises a fundamental business question: if customers aren’t paying commissions, how do these companies generate billions in revenue? The answer lies in a complex and controversial practice known as Payment for Order Flow (PFOF).

Here’s a simplified breakdown of the PFOF model:

1. You Place an Order: You decide to buy 10 shares of Apple stock through your commission-free brokerage app.
2. The Order is Sold: Instead of sending your order directly to a public exchange like the NYSE or Nasdaq, your broker sells it to a third-party, typically a massive high-frequency trading (HFT) firm or market maker, such as Citadel Securities or Virtu Financial.
3. The HFT Firm Pays Your Broker: The HFT firm pays your broker a small fee, perhaps fractions of a cent per share, for the right to handle your order. This is the “payment for order flow.”
4. The Order is Executed: The HFT firm executes your order, buying the 10 shares of Apple on your behalf and delivering them to your account.

This process happens in milliseconds. For the broker, it’s a lucrative model. Multiply those fractions of a cent by millions of trades per day, and it becomes a multi-billion dollar revenue stream. For the HFT firms, buying this order flow is immensely profitable because retail orders are considered “uninformed.” Unlike large institutional orders that can move markets, retail flow is fragmented and predictable, allowing HFTs to profit from the tiny difference between the buying and selling price (the bid-ask spread) with minimal risk.

To clarify the distinction, let’s compare the business models side-by-side.

The Echoes of History: Parallels and Divergences

With a clear understanding of both systems, we can now evaluate the analogy. How closely do modern fintech platforms mirror the bucket shops of old?

The Unsettling Parallels

• Hidden Costs & Obfuscation: Bucket shops hid their adversarial nature behind the facade of a legitimate brokerage. PFOF brokers market “free” trading, obscuring the fact that the cost is paid indirectly through potentially sub-optimal price execution. While a retail investor might not notice a difference of $0.01 per share, these tiny fractions, known as “price dis-improvement,” add up to billions for market makers.
• Information Asymmetry: The bucket shop owner had more information than the client. Today, HFT firms have a massive technological and informational advantage. By seeing retail order flow before the rest of the market, they gain a critical edge, allowing them to adjust their own trading strategies in a practice critics call “latency arbitrage” or a form of front-running.
• Conflict of Interest: This is the strongest parallel. In both models, the intermediary’s financial success is not directly tied to the investor’s success. The bucket shop profited from client losses. The PFOF broker profits from selling client orders, creating a powerful incentive to partner with market makers who may not offer the best execution.

The Critical Divergences

• Regulation: The modern financial market is one of the most heavily regulated sectors of the economy. Practices are scrutinized by bodies like the Securities and Exchange Commission (SEC). Bucket shops operated in a “Wild West” environment with virtually no oversight.
• Trade Execution: This is the most significant difference. PFOF brokers facilitate real trades that are settled on the market. Bucket shops were a sham; no shares ever changed hands.
• Scale and Technology: The speed and volume of today’s trading are unimaginable in the 1920s. The economics of PFOF depends on billions of trades processed in microseconds, a technological feat far beyond the ticker tape machines of Jesse Livermore’s era.

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What This Means for You, the Modern Investor

Understanding this complex market structure isn’t just an academic exercise; it has real-world implications for anyone involved in trading or investing.

The first takeaway is that there is no such thing as a free lunch in finance. “Commission-free” does not mean “cost-free.” The cost has simply shifted from an explicit fee to an implicit one embedded in the architecture of the trade itself. For a long-term, buy-and-hold investor, the fractional costs associated with PFOF are likely negligible. However, for an active trader making dozens of transactions a day, these tiny costs can significantly erode potential profits over time.

This reality calls for a new level of financial literacy. The ease of access provided by fintech apps can create a dangerous illusion of simplicity. While the interface is simple, the underlying market mechanics are more complex and opaque than ever. Investors must educate themselves on how their broker makes money and the potential conflicts that may arise.

Finally, it’s crucial to consider alternatives. Not all brokers rely on PFOF. Some, like Interactive Brokers, offer pricing tiers where users can pay a commission in exchange for direct market access, giving them more control over how their orders are routed and executed. For sophisticated traders, the commission cost may be well worth the improved execution quality.

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Conclusion: Same Game, Different Playing Field

Andy Swan’s letter to the Financial Times serves as a brilliant and necessary historical anchor in the fast-moving currents of financial technology. While modern trading apps are not literal bucket shops, the analogy powerfully illuminates the persistence of conflicts of interest within the financial system. Technology has transformed the user experience of investing, but it has not eliminated the fundamental economic incentives that can pit an intermediary’s interests against those of its clients.

The ghost of the bucket shop is a reminder that investor vigilance is timeless. The promise of democratized finance is a worthy goal, but its realization depends on transparency and a regulatory framework that ensures the “best execution” of a trade is a duty, not just a marketing slogan. As we continue to innovate in banking, trading, and the broader economy, we must remember the lessons of Jesse Livermore: always understand the rules of the game you’re playing, especially when the house tells you it’s free.