October 17, 2012

Instant Replay

Let’s go to the tape.

That’s what we hear in sports now, especially football. Send it to the replay booth. Forget the referee’s call. We’ll check frame-by-frame and – yes, see, right there, his pinky finger holding the ball broke the goal line. TD!

I’m not suggesting instant replay is bad. We want accuracy. But revisiting calls changes the game. There’s a flow and rhythm disrupted by continual play-stoppages. There’s inherent sterility. We introduce a standard of perfection into an atmosphere dependent on imperfection. The game is played by imperfect humans and officiated by other imperfect ones.

With instant replay, the league is decreeing that officiating must be the one perfect element. To effect perfection, somebody loses. Players and the game are deprived of pace. We relieve participants of the opportunity packaged in every missed call to exercise character and behave gracefully. After all, life is neither perfect nor fair.

It’s a tradeoff.

We’ve got the same one in the markets. In fact, as I write, my email dinged with another trading halt, the second inside seven minutes (for NPSP and SCOG). No wait, we just had two more, for symbols SCLP and SGGG. These were all T2 or T12 halts at the Nasdaq, indicating market pauses to assess information, rather than single-stock circuit breakers as we saw multiple times the past five days under trading-halt codes T5-T7.

And yesterday as money gleefully cashed in derivatives ahead of options expirations today-Fri (rarely a good leading indicator for equities), stocks moved wildly all over the place – but just inside circuit breakers.

In equity markets, a T5 pause is a move more than 10% in a five-minute period. A T6 pause signals some technology malfunction. A T7 says quoting can resume but trading hasn’t yet opened again.

We’d be Luddites not to see that modern markets need tripwires. With markets – meep! meep! – ablaze like Road Runner, something must stop the action to avoid stock pileups. Trading halts are instant replays. Chances to stop and review and assess.

But they also reflect fundamental transformation. Markets are constructed around inherently human risk and opportunity. One person’s trash is another’s treasure. We’re not all the same.

Yet we are all algo traders now, even if we’re IROs and don’t know what an “algo” is. Why? Human pursuit of risk and opportunity has been subordinated to instant replay and machine prices. Fear and greed defined by T5 guardrails in place of story and news.

It’s a tradeoff. There’s safety, to a degree. But don’t expect rational behavior to thrive. Now let’s go to the booth for review.

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