Options Trading Is Rigged Against Average Investors

Would you gamble your life savings on a few hands of blackjack? Probably not. But as a former manager of options trading, I’ve seen amateur investors — encouraged by posts on Reddit and X of massive, easy overnight wins, and offers of “zero-commission” trading online — lose much of their net worth on risky bets.

What bothers me most is that some big trading firms are actually paying brokerages to take the other side of these trades, knowing they have better information than the small investors and so will profit big. These payments are known as “payment for order flow.”

In 2022, large trading firms including Citadel and Susquehanna paid a total of $2.9 billion to brokerages such as TD Ameritrade Corp. and Robinhood Markets Inc. to trade against their customers’ orders, according to SEC data compiled by Alphacution Research Conservatory. In short, they are paying for the privilege of taking advantage of the unsophisticated investor.

This is akin to a few Vegas casinos paying travel agents to send them droves of unsophisticated players. The travel agent, like a brokerage, is paid by volume, and so wants to promote as much betting as possible. Other casinos, like the trading firms that don’t pay for retail orders, would have reduced access to these profitable inexperienced players.

Trading by retail investors has recently reached as high as 60% of the total market volume in options, according to new research by Svetlana Bryzgalova, Anna Pavlova and Taisiya Sikorskaya of the London Business School, with dollar volumes increasing by more than 10 times in the last decade. (The firms I worked for did not pay brokerages for orders, but benefited from increased volumes in retail trading.)

And the surge is only accelerating. Last May, exchanges started listing options that expire on each day of the week rather than three days, and they have exploded in popularity. With the potential of making 50 or even 100 times your investment in a day, they are the cheapest and fastest way to potentially win big, the biggest dopamine hit available for sale on the exchange. According to research at the University of Münster, 75% of retail’s S&P 500 option trades today are of this variety.