By KARA SCANNELL
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AFP/Getty ImagesA trader on the floor of the New York Stock Exchange looks at stocks during the final minutes of trading May 6, 2010.
Federal regulators investigating the causes of the May 6 "flash crash" concluded a large trader's use of a computer trading system to sell futures contracts led to a rapid and sudden selling that triggered additional selloffs in an already unstable market.
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According to a joint report from the staffs of the Securities and Exchange Commission and Commodity Futures Trading Commission, the trader chose to use an algorithm to trade the E-mini futures contract, a contract that mimics trading in the S&P 500 stock index. The computer program executed the trade "extremely rapidly in just 20 minutes," according to the report.
The report found that the trades were initially absorbed by high-frequency traders and others in the market, but soon liquidity dried up for that contract and elsewhere.
The Wall Street Journal and other news organizations have identified the large trader as Waddell & Reed Financial. The report only identifies the trader as a large trader. Waddell has said it didn't intend to disrupt the market.
Regulators highlighted the trader's choice to execute the computer-trade based only on volume—in this case to execute at 9% of the trading volume—with no consideration of price or time of execution in an already stressed market as a contributor to the rapid selling. Previously, the report said, the trader used a combination of manual trading and algorithms to complete sales of 75,000 contracts over five hours. On May 6, the trader's automated trades sold 35,000 contracts in seven minutes.
High frequency traders, devoid of any real demand from buyers of the futures contract, began to quickly buy and resell contracts "generating a 'hot-potato,'" the report said. Between 14 seconds, high frequency traders traded over 27,000 contracts, which accounted for about 49% of the total trading volume, while buying only about 200 additional contracts, the report said. Over four minutes, the price of the E-Mini fell by 3%.
At 2:45 pm, trading in the E-mini contract was temporarily paused for five seconds to stop the steep slide in prices. When trading resumed, buyers stepped in and prices began to rise again. The report said the large trader continued to execute its sell orders.
At that same time, trading on the futures side transcended to the liquidity problems in the stock market affecting individual stocks and exchange-traded funds. The report said a "significant number" of market markers withdrew completely. Some high frequency trading firms continued to trade, but were net sellers, the report said.
The market makers that usually trade off exchanges began shifting their trading onto the exchanges to execute trades. Some trades were executed at prices as high as $100,000 and as low as a penny resulting from a dearth of real orders and being executed at stub quotes.
By 3 p.m., the report said, most trading had stabilized at more-normal prices.
In describing "lessons learned" from May 6th, regulators concluded that an automated execution of a large sell order can set off extreme price swings.
They also pointed to the interaction between such automated execution programs and computer-driven trading models for the swift plunge in the stock market that day, which wiped out nearly $900 billion in equity-market value in less than 20 minutes.
The regulators said their investigation confirmed "inter-connectedness of our derivatives and securities markets" and the need for a harmonized regulatory approach.
They also learned that many market participants rely on their own version of a trading pause, triggered by market signals, they said. Too many participants fleeing the market can disrupt the market's ability to reflect appropriate prices and cause normal market function to break down, the regulators said.
The report also said an alleged practice of using computerized trading programs to flood the market with orders and then quickly cancel them was not seen as a major factor in the "flash crash."
The practice of "quote stuffing"—firing out many orders in an effort to slow the systems of rivals and gain a speed advantage—has drawn attention from market data analysts and lawmakers worried that the strategy could have played into the "flash crash."
While the joint report from securities and futures market regulators found that delays in stock price data flowing from exchanges to traders posed problems for some firms on May 6, those delays were not a primary factor in triggering the widespread volatility.
The report, which runs 87 pages in text and appends numerous charts, was prepared by the staffs of the SEC and the CFTC.
—Jessica Holzer and Jacob Bunge contributed to this article. http://online.wsj.com/article/SB10001424052748703859204575525973854203534.html?mod=djemalertMARKET=====================================================================================
Markets Alert
from The Wall Street Journal
Federal regulators investigating the causes of the May 6 “flash crash” concluded a large trader’s use of a computer trading system to sell futures contracts led to a rapid and sudden selling that triggered additional sell-offs in an already unstable market.
According to a joint report from the Securities and Exchange Commission and Commodity Futures Trading Commission, the trader chose to use an algorithm to trade the E-mini futures contract, a contract that mimics trading in the S&P 500 stock index. The computer program executed the trade “extremely rapidly in just 20 minutes,” according to the report.
The report found that the trades were initially absorbed by high-frequency traders and others in the market, but soon liquidity dried up for that contract and elsewhere.
http://online.wsj.com/article/
* 'Flash crash' report not enough to bring back retail
* US equity funds have seen 21 weeks of outflows-TrimTabs
NEW YORK, Oct 1 (Reuters) - Frightened retail investors shunning the stock market are unlikely to find much comfort in Friday's report on the May 6 "flash crash" that sent markets tumbling in a matter of minutes.
The report lays out how the crash was kicked into gear by a large trade made by Waddell & Reed Financial Inc
"I don't think anything from the report is going to change the perception of the average retail investor about the functioning of the equity marketplace," said Michael James, senior trader at regional investment bank Wedbush Morgan in Los Angeles.
Small investors helped fuel one of the longest stretches of gains for stocks in history and their loss of faith in equities is proving hard to restore, with money instead flowing to perceived safer investments like bonds and gold.
The May 6 crash sent stocks spiraling in an unprecedented breakdown. Trading that day was turbulent, and a "large fundamental trader" initiated a program to sell 75,000 E-Mini contracts as a hedge to an existing equity position, according to the 104-page report. For details, see [ID:nN01141642]
Reuters reported on May 14 that Waddell & Reed was the seller of those contracts, citing internal documents. [ID:nN14198678]
The Dow Jones industrial average shed some 700 points in a matter of minutes before rebounding.
The flash crash only intensified the retail investor's wariness of the market, investors say. Small investors shunned equities after the market lost half of its value between late 2007 and early 2009.
"Retail investors that are staying away from the market are going to continue to stay away," James said.
Money has been moving out of U.S. mutual funds for 21 consecutive weeks, beginning the week before the flash crash, according to data from TrimTabs, a research firm in Sausalito, California.
Outflows spiked in May, with $19.1 million moving out of U.S. equity mutual funds, according to TrimTabs. By comparison, those funds saw modest inflows in March and April of that year.
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Analysts View on CFTC report [ID:nN01114384]
Reuters Insider interview with Themis' Joe Saluzzi
http://link.reuters.com/sef56p ^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^>
The most tangible result of the flash crash has been the trial circuit breakers imposed by the U.S. Securities and Exchange Commission. Introduced in June for a six-month period, circuit breakers pause trading in stocks that see a price change of 10 percent or more within a 5-minute rolling period.
The circuit breakers have been criticized for disrupting trading. A handful of stocks have been halted even after trades have gone through at prices far below the current action.
"They are still getting triggered and there are still stocks trading at 1 cent when they were trading at $75 a second or two before," said Jeff Rubin, market strategist at Birinyi Associates in Westport, Connecticut.
"It's ruining the individual investors appetite for equities and you see that from the continued outflow from mutual funds. People get disenchanted when they see stocks that trade at zero."
The report notes regulators are considering augmenting the current circuit breaker rules with other mechanisms, such as a limit up/limit down system that would directly prevent trades outside of specified parameters.
To be sure, while regulators are attempting to find solutions that will help put the brakes on wild trading swings, the market still appears out of control to the average investor.
"What retail investors are really looking for is what will prevent it from happening again. This is the biggest key," said Randy Frederick, director of trading and derivatives at the Schwab Center for Financial Research, Austin, Texas.
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| S&P 500 Futures Contract Specs | |||||
|---|---|---|---|---|---|
| Opening Date | 4/21/1982 | ||||
| Ticker Symbol | SP SP= Clearing View product and vendor codes | ||||
| Contract Size | $250 x S&P 500 futures price | ||||
| Tick Size (minimum fluctuation) | OUTRIGHT | 0.10 index points=$25 | |||
| CALENDAR SPREAD | 0.05 index points=$12.50 | ||||
| Trading Hours All time listed are Central Time | Open Outcry | MON-FRI: 8:30 a.m.-3:15 p.m. | |||
| CME Globex (Electronic Platform) | MON-THURS: 3:30 p.m.-8:15 a.m. (daily maintenance shutdown from 4:30 p.m.-5:00 p.m.) SUN: 5:00 p.m.-8:15 a.m | ||||
| Contract Months | Open Outcry | Eight months in the March Quarterly Cycle (Mar, Jun, Sep, Dec) | |||
| CME Globex | One month in the March Quarterly Cycle (Mar, Jun, Sep, Dec) | ||||
| Last Trade Date/Time View Calendar | Open Outcry | 3:15 p.m. on Thursday prior to 3rd Friday of the contract month | |||
| CME Globex | On the rollover date (typcially eight days prior to last trade date for open outcry) when the lead month goes off the screen and the deferred month becomes the new lead month. View Rollover Dates | ||||
| Final Settlement Procedure | Cash Settlement. All open positions at close of last day of trading are settled in cash to the Special Opening Quotation (SOQ) on Friday a.m. of the S&P 500 Index. See SOQ FAQ. | ||||
| Daily Price Limits | RTH: Successive 10%, 20%, 30% limits (downside only) ETH (overnight): 5% up or down View price limits details | ||||
| Position Limits | 20,000 net long or short in all contract months combined. | ||||
| Block Trade Eligibility | No. View more on block-trade eligibile contracts. | ||||
| Block Minimum | N/A | ||||
| Rulebook Chapter | 351 | ||||
| Exchange Rule | These contracts are listed with, and subject to, the rules and regulations of CME. | ||||
| E-mini S&P 500 Futures | |||||
|---|---|---|---|---|---|
| Opening Date | 9/9/1997 | ||||
| Ticker Symbol | ES ES= Clearing View product and vendor codes | ||||
| Contract Size | $50 x E-mini S&P 500 futures price | ||||
| Tick Size (minimum fluctuation) | OUTRIGHT | 0.25 index points=$12.50 | |||
| CALENDAR SPREAD | 0.05 index points=$2.50 | ||||
| Trading Hours All time listed are Central Time | CME Globex (ETH) | MON-THURS: 5:00 p.m.-3:15 p.m. & 3:30 p.m.-4:30 p.m. (Daily maintenance shutdown 4:30 p.m.-5:00 p.m.) SUN: 5:00 p.m.-3:15 p.m. | |||
| Contract Months | Five months in the March Quarterly Cycle (Mar, Jun, Sep, Dec) | ||||
| Last Trade Date/Time View Calendar | CME Globex | Trading can occur up to 8:30 a.m. on the 3rd Friday of the contract month | |||
| Final Settlement Procedure | Cash Settlement. All open positions at close of last day of trading are settled in cash to the Special Opening Quotation (SOQ) on Friday a.m. of the S&P 500 Index. See SOQ FAQ.. | ||||
| Daily Price Limits | RTH: Successive 10%, 20%, 30% limits (downside only) ETH (overnight): 5% up or down View price limits details. | ||||
| Position Limits | Work in conjunction with existing S&P 500 position limits | ||||
| Block Trade Eligibility | No. View more on block-trade eligibile contracts. | ||||
| Block Minimum | N/A | ||||
| Rulebook Chapter | 358 | ||||
| Exchange Rule | These contracts are listed with, and subject to, the rules and regulations of CME. | ||||
http://www.cmegroup.com/trading/equity-index/us-index/sandp-500_contract_specifications.html#prodType=undefined
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