Tagged: Flash Crash

Cliffside

I took a screenshot yesterday at 2:22pm, on Feb 22, 2022. 

Sign from God? Turning point? Hogwash?

Those are better than most proffered reasons for the stock market’s moves.

Lately it’s been delivering pain. Blame goes to Ukraine, where the Gross Domestic Product of about $155 billion is 40% of Apple’s 2021 revenue. Way under Denver’s $200 billion GDP. A tenth of Russia’s.

Illustration 45324873 © Iqoncept | Dreamstime.com

Ukraine is not destabilizing global stocks. Numbers help us understand things.  The numbers don’t add up, without offense, for Ukraine.

So, why are stocks falling? Answering why is like explaining what causes earthquakes: We understand they’re products of mathematical facts insinuated into our dirt.

Well, mathematical facts shape equity markets too, and the construction emanates from the USA and its 40% share of the total global equity market.

Anybody remember the Flash CrashFlash orders?  Books were written. Investigations convened.  Congressional hearings held.  MSM’s good friend Joe Saluzzi was on CBS 60 Minutes describing how the stock market works.

We seem to have forgotten. 

Now the Department of Justice is probing short-selling.  The SEC is investigating block trades.

For God’s sake.

The block market that should be investigated is the off-market one where Exchange Traded Funds are created in huge, swapped block trades of stock without competition, taxes, or commissions. The SEC is fine with that. Approved it.

The short-selling needing investigating is the market-maker exemption from short-locate rules that powers the stock market.  Academic studies claiming clouds of short-selling around big declines lack comprehension of how the stock market works.

The SEC knows how it works. I doubt the DOJ does. 

Everybody wants to find that volatility springs from nefarious intent. Greedy people. Cheats.

No, it’s the rules. The SEC publishes data on cancelled trades – legal spoofing.  That’s the MIDAS system, built for the SEC by a high-frequency trader.

People have gone to jail for what’s a fundamental fact of market function. The truth is, most orders are cancelled.  How can you parse what’s legal or not when the market is stuffed with behaviors that if separated by label or exemption move from illegal to legal?

Something should be wrong, or not.  Don’t lie. Don’t steal. Don’t cheat.  The Ten Commandments are simple.

When you say, “Don’t cheat – unless you’re a market-maker,” your stock market is already a disaster in the making.  People won’t understand why prices go up or down.

Here’s some math.  The average trade-size in the stock market – shares trading hands at a time – is down more than 50% since 2016.  It dropped 10% just in the past 200 days in the S&P 500.

The average S&P 500 stock trades 100 shares at a time, data ModernIR tracks show. That’s exactly the regulatory minimum for quoting a bid or offer.

Meanwhile, the number of trades daily is up more than 20% from a 200-day average of 40,000 trades daily per S&P 500 component to nearly 50,000 in the last five trading days.

Oh, and roughly 48% of all stock volume the last five days was SHORT (vs about 45% 200-day average).

And the DOJ is investigating short-selling.

Combine stocks and ETFs and 90% of trades are cancelled. Over 90% of all short-selling is sanctioned, exempted market-making – firms making stock up out of thin air to keep all those 100-share trades happening.

The DOJ is searching for a private-sector speck while a beam protrudes from the all-seeing government eye.

Do we want a stock market that gives you 100 shares that might not exist? Or a stock market that reflects reality?  People don’t even know.  You can’t have both.  The SEC simply hasn’t explained to anybody this Hobson’s Choice.

The principal stock buyers and sellers embed their computers in every tradable market on the planet, and all the machines share instant information. They’re 50% of volume. That’s why equities rise and fall in relative global uniformity (not perfectly – there are always asymmetries to exploit).

Machines identify breakdowns in supply and demand and magnify them. Stock exchange IEX made famous by Michael Lewis’s book Flash Boys calls it “crumbling quotes.”  The stock market becomes like California cliffsides.  It…dissolves.

Investigations are wasted time.  Constant scrutiny of headlines and fundamentals for meaning behind the market’s moves is mostly pointless.

I’m not saying nothing matters. But the central tendency, the principal answer, is market structure.

I could also say math signals gains next, and also says stocks are down because momentum died in Jun/Jul 2021. Another story.

There’s just one thing wrong with the stock market.  Its singular purpose is the perpetuation of continuous activity.  When activity hiccups, the market crumbles like a California cliffside.

The rest is confusing busy with productive.

And that’s why if you’re a trader or public company in the stock market, and you don’t spend SOME time understanding how it works, you’re on that cliffside.

Whacked and Lulled

D-whacked. 

That’s how some described the stock market the past few days.  Since Donald Trump has been cancelled from popular culture, you’d be excused for missing the debut of a SPAC associated with the former President called Digital World Acquisition Corp (DWAC).

You get it now, right.  D-whack.

Illustration 93383364 / Volatility © Iqoncept | Dreamstime.com

The Twittersphere was a-flurry, amusing given the ex-President’s erstwhile penchant for that platform.

The new SPAC finished Oct 20 at $9.96, and closed the next day at $94.20, an 850% increase.  It was volatility-halted a half-dozen times Thursday, five minutes at a time.  I was on Benzinga shows several times in recent days discussing it.

We’re going to talk about those halts. Hang on for a bit.

On Friday, DWAC went berserk anew amid a rash of volatility halts, and I saw a price north of $187 at one point – a gain of almost 1,800% in two days.  It’s now near $60.

Oh, and get this:  Including warrants, there are about 42 million shares outstanding.  Last Thursday alone, DWAC traded 498 million shares, twelve times what exists.  Through yesterday it’s traded 730 million shares.

It couldn’t be a short squeeze like meme stocks GME and AMC were said to experience.  There were no shares to short. I won’t relitigate that story here, save to say that short squeezes are difficult to effect because market-makers can create stock.

And that’s what happened. If there are orders to buy 100 million shares of DWAC, market-makers will create stock to fill those between the best bid to buy or offer to sell.

Traders and public companies, you best grasp this flaw.  There is theoretically no limit on the stock that brokers executing trades might create. Stock is currency. What happens when you create more currency to chase the same goods – here, prices?

Prices inflate.

The ramifications are breathtaking.  This colossal risk exists because the SEC wants a “continuous auction market” where everything is always for sale, 100 shares at a time.

It’s nobody else’s fault. It’s a choice.

Now, let’s get back to volatility halts. We’ve had hundreds the past week, most in tiny stocks. DWAC was volatility halted almost 20 times in total.

Let’s understand volatility halts. After the May 6, 2010 so-called Flash Crash, the SEC and Finra and the exchanges implemented rules to halt the broad market and individual stocks, and they’ve been updated some since.

The broad market – as we saw repeatedly in March 2020 – hits a Level 1 halt for 15 minutes if the S&P 500 drops 7% below its previous closing price.  That halt doesn’t apply after 3:25p ET, though.  Level 2 is down 13%, and we sit and wait 15 minutes again. That actually happened. Remember?

If we smash into Level 3, down 20%, the market closes for the day.

In single stocks, there are volatility halts called Limit Up/Limit Down (LULD). Nearly 10,000 triggered in the spring of 2020. LULDs stop trading in a stock when price moves outside calculated bands from the SIP, the Securities Information Processor.

That’s the consolidated tape, how we know volume and prices across a byzantine network of nodes where stocks trade.  Trading pauses for five minutes if the bid or offer moves outside the bands.

If those moves last under 15 seconds, the halt dissolves.  If not, trading stops for five minutes, and the primary listing market then re-launches trading (the CBOE says other markets can trade a stock if the listing market can’t reopen it but I can’t confirm that).

DWAC kept rising because bids and offers melted back inside the bands. Well, what’s the point of pausing then?  Why limit a stock up or down if no limit actually happens?

Traders were screaming that the price would move dramatically at resumption too.  Of course. Price bands kept revising.  And for stocks like PHUN, which also traded wildly, the bands are massive – double what they are for stocks with prices higher than $3.

These halts seem pointless. They don’t serve issuers or investors, only the parties responsible for maintaining a continuous auction. That then becomes the purpose of the market – rather than a fair place for investors and public companies to find each other.

What happened in March 2020 will happen again. We see it in the terrible challenge stocks face when they decline rather than rise.  The market shouldn’t be d-whacked.

But it is. So get ready.

Benjamin Graham

A decade ago today, stocks flash-crashed.  I’m reminded that there are points of conventional market wisdom needing reconsideration.

It’s not because wisdom has diminished. It’s because the market always reflects what the money is doing, and it’s not Ben Graham’s market now. I’ll explain.

There are sayings like “sell in May and go away.”  Stocks fell last May. You’ll find bad Mays through the years. But to say it’s an axiom is to assert false precision.

Mind you, I’m not saying stocks will rise this month. They could plunge. The month isn’t the reason.

Graham protégé Warren Buffett told investors last weekend that he could find little value and had done the unthinkable: Reversed course on an investment. He dumped airlines. Buffett owned 10% of AAL, 11% of DAL, 11% of LUV and 9% of UAL.

Buffett and Berkshire Hathaway, sitting on $137 billion, believe in what Buffett termed “American Magic.” But they’ve sold, and gone away in May.

There are lots of those sayings. As January goes, so goes the market.  Santa Claus rallies come in December.  August is sleepy because the traders are at the Cape, the Hamptons.

These expectations for markets aren’t grounded in financial results or market structure.

Blackrock, Vanguard and State Street own 15-20% of the airlines, all of which are in 150-200 Exchange Traded Funds (ETF).  Passive money holds roughly half their shares.

Passives don’t care about the Hamptons, January, or May.  Or what Warren Buffett does.

In JBLU, which Buffett didn’t own, the Big Three own 20%, and Renaissance Technologies and Dimensional Fund Advisors, quants with track records well better than Buffett’s in the modern era, invest in the main without respect to fundamentals.

Unlike Buffett, RenTech and DFA continually wax and wane.

It’s what the money is doing now.  Its models, analysis, motivation, allocations, are not Benjamin Graham’s (he wrote Security Analysis, The Intelligent Investor, seminal tomes on sound stock-picking from the 1930s and 1940s).

And that’s only part of it.  New 13fs, regulatory details on share-ownership, will be out mid-May. Current data from the Sep-Dec 2019 quarters for DAL show net institutional ownership down 17m shares, or 3%.

But DAL trades over 70 million shares every day. Rewinding to the 200-day average before the market correction exploded volumes, DAL still traded over 16m shares daily.  The total net ownership change quarter-over-quarter was one day’s trading volume.

Since there are about 64 trading days in a quarter, and 13fs span two quarters, we could say DAL’s ownership data account for about 1/128th of trading volume. Even if we’re generous and measure a quarter, terribly little ownership data tie to volume.

Owners aren’t setting prices.

Benjamin Graham was right in the 1930s and 1940s.  He’s got relevance still for sound assessment of fundamental value.  But you can’t expect the market to behave like Benjamin Graham in 2020.

The bedrock principle in the stock market now is knowing what motivates the money that’s coming and going, because that’s what sets prices.  Fundamentals can’t be counted on to predict outcomes.

In DAL, Active Investment – call it Benjamin Graham – was about 12% of daily volume over the trailing 200 days, but that’s down to 8% now. Passive money is 19%, Fast Traders chasing the price long and short are 62% of the 73m shares trading daily. Another 11% ties to derivatives.

Those are all different motivations, reasons for prices to rise or fall.  The 11% related to derivatives are hoping for an outcome opposite that of investors. Fast Traders don’t care for more than the next price in fractions of seconds. They’re the majority of volume and will own zero shares at day’s end. You’ll see little of them in 13fs.

The airline showing the most love from Benjamin Graham – so to speak – is Southwest.  Yet it’s currently trading down the most relative to long-term performance. Why? Biggest market cap, biggest exposure to ETFs.  It’s not fundamental.

If you’re heading investor-relations for a public company or trying to invest in stocks, what I’ve just described is more important than Benjamin Graham now.

The disconnect between rational thought and market behavior has never been laid so bare as in the age of the pandemic.  It calls to mind that famous Warren Buffett line:  Only when the tide goes out do you discover who’s been swimming naked.

Might that be rational thought?

How airlines perform near-term depends on bets, trading, leverage. Not balance sheets.  It’s like oil, Energy stocks – screaming up without any fundamental reason.  And market structure, the infinite repeating arc from oversold to overbought, will price stocks. Not Ben Graham.  Though he was wise.

New Answers

What’s the purpose of life?

We want simple answers to complex questions.  Such as when management asks why the stock price is up or down. Since elementary explanations are often incorrect, there’s been a loss of confidence.  “We broke through our moving averages” wears thin with the CEO.

I’ll give you a couple examples. Yesterday an energy master limited partnership trading on the NYSE announced an unchanged cash distribution for the first time in years. This company is known for steadily ratcheting up quarterly outlays to holders.

The stock tanked. Right?  Nope, it doubled the modest sector gains in energy yesterday. Maybe investors thought the company would trim the distribution?  Now we’re speculating because the opposite of what was expected occurred.

We’re also assuming price depends on rational thought, which if the feds now contending a trader spoofing the futures market with placed and canceled trades caused the Flash Crash, is the exact opposite of reality.  Do you know the SEC’s own trading data show at least 25 cancels for every completed trade in stocks of all market-caps (250 per trade in high dollar-volume issues), and over 1,000 cancels-per-trade in big ETFs?

Another company last week dropped sharply amid block volumes, prompting conventional stock soothsayers to conclude big holders were selling. Seems logical, right? If your stock trades 8,342 times daily on average your closing price is the 8,342nd trade.  It’s where the day’s music stopped and useless as a central tendency – and yet closing price is the de facto measure of action (we prefer midpoint price, by the way).

In the 1961 science fiction novel Solaris by Polish writer Stanislaw Lem – made into a 2002 movie starring George Clooney – Kelvin the protagonist questions his sanity. Seeing things that appear real but seem impossibly so, he begins to believe his entire journey may be occurring in his own mind.  To establish a reality baseline he performs some calculations. He reverts to the math.

Back to the stock above, the math showed the opposite of what reality appeared to say. Active value investors had been buyers. When buying stopped, traders abruptly quit lifting prices, prompting a brief plunge. Short volumes, which had jumped 40% in two days, sharply retreated at once, implying block prints reflected short-covering – by the very brokers who’d just filled buys for Value money.  The stock is now trading higher, which would be unlikely if big holders were sellers.

Ah for simple answers – but we don’t live in that world. Which brings us to today. Two vital macro events collide like matter in a particle accelerator: In the morning, we’ll get a first read on US GDP this quarter.  Then later the Federal Reserve via the non-apparitional personage of Janet Yellen will pronounce something about monetary policy.

Beneath the surface the market is on pins and needles. The Fed represents the supply of money, economic growth its cost.  The US dollar has been coming off decade-highs for days now, indicating some see growth drearier than hoped.  In the ModernIR 10-point Behavioral Index, sentiment is still weakly over neutral, meaning investors think whatever happens will be accommodative and therefore helpful to stocks.

But hedging is breathtaking – radically greater in the past five days than any other behavior. Investors are in fact in sharp retreat as price-setters. Effectively, everyone but the Fed has transferred the risk of being wrong to somebody else. Where that hot potato lands will determine the fate of equities. Moves either direction could be large.

Data suggest the economy will offer a limp pulse, perhaps wheezing in below 1% despite expectations from the Fed itself last December of 3%. If the Fed is off by 70% nobody there will get fired, which is good news for the jobless rate.

What’s it all mean? We pine for Easy, Simple. We’re sure as IR officers our shares stand out, and I hear all the time, “My stock is different.”  Like doctors studying angiograms we see the data and say, “You look like the typical patient to us. The good news is that means we’ve got answers.”

The great modern opportunity for the IR profession is the same presented to any generation, scientist, philosopher or explorer challenging convention.  We first face complex reality and then translate it into refreshing value for those we serve.

It’s not simple – but it’s exhilarating. So today, whatever your stock does in response to Janet Yellen’s invigorating oratory and the probable whiff from the economy, ask the question – why? – and if you’re still laboring along the flat earth of old-fashioned perspectives, stop.  Seek new answers. They exist!

Then the CEO will again ask you for them – a measure of value from those you serve.

Chasing Spoofers

Apparently the market is very unstable.

This is the message regulators are unwittingly sending with news yesterday that UK futures trader Navinder Singh Sarao working from home in West London has been arrested for precipitating an epochal US stock-market crash.

On May 6, 2010, the global economy wore a lugubrious face. The Greeks had just turned their pockets out and said, “We’re bollocks, mate.”  (Thankfully, that problem has gone away.  Oh. Wait.) The Euro was on a steep approach with the earth. Securities markets were like a kindergarten class after two hours without some electronic amusement device.

By afternoon that day, major measures were off 2% and traders were in a growing state of unease. The Wall Street Journal’s Scott Patterson writing reflectively in June 2012, interviewed Dave Cummings, founder of seminal high-frequency firm TradeBot. Heavy volume was scrambling trading systems, Patterson wrote, leading to disparities in prices quoted on various exchanges. The decline became so sharp, Cummings told Patterson, that he worried it wasn’t going to right itself. If the data was bad, TradeBot would be spreading contagion like a virus.

Ah, but wait. Regulators now say mass global algorithmic pandemonium May 6, 2010 was just reaction to layered stock-futures spoofing out of Hounslow, a London borough featuring Osterly Park, Kew Bridge and a big Sikh community. If you think the Commodity Futures Trading Commission’s revelry over finding the cause of the Flash Crash just north of the Thames and west of Wimbledon stretches the bounds of credulity, you should.

Mr. Sarao is accused of plying “dynamic layering” in e-mini S&P 500 futures, a derivatives contract traded electronically representing a percentage of a standard futures contract. It’s called an ideal beginner’s derivative because it’s highly liquid, trades around the clock at the Chicago Mercantile Exchange, and offers attractive economics. (more…)

Lulled by Markets

Palo Alto is a great town.

While there sponsoring IR Magazine’s West Coast Think Tank last week we feasted at Evvia and Fuki Sushi. Denver’s got fine sushi. Our Sushi Den on South Pearl Street flat demoralizes Bryant Park’s Koi. Proprietors Toshi and Yasu Kizaki each day fly in hand-picked selections from the Tokyo fish market. You gotta get up pretty early to beat our fish. Fuki Sushi apparently rises at dawn. We ate to dullness.

Speaking of lulled, exchanges began introducing new SEC-approved Limit-Up/Limit-Down (LULD) single-stock circuit breakers Monday, smartly easing the program into effect. More will be added until the largest 2,000 are covered by late May and the rest of the market through August.

“It sounds simple, but for firms managing thousands of customer orders, you have to program how you’ll manage them, how you’ll deal with quotes and trades across 50 destinations, routing decisions and execution quality,” Chris Concannon, partner at high-frequency trading firm Virtu Financial, told Bloomberg reporter Nina Mehta.

Under LULD, stocks won’t be permitted to trade more than a certain percentage from their rolling five-minute average prices. The SEC mandated these changes after the Flash Crash of May 6, 2010, sent the S&P 500 plunging over a hundred points and the Dow Industrials a thousand points, before both rebounded, all in roughly twenty minutes. (more…)

Big Tick Talk

We all love soaring markets. When were you last dead sure what drove your stock up?

Today, a German court will decide if German taxpayers must back last week’s European Central Bank plan to buy Eurozone debt, which powered US equities to multi-year highs Sept 6. Stocks have moved higher since, with the dollar at May lows. What that court says may prompt stocks to swoop or swoon.

Thursday the 13th, Ben Bernanke speaks after the Federal Reserve’s monthly Open Market Committee meeting. That may boost stocks too, or disappoint them.

By the way, Friday I speak (having zero macro impact) to the IR council for MAPI, the manufacturer’s alliance, on “what lies beneath” market structure today. See you at the Intercontinental in Chicago.

Next week is huge. Options expire, quarterly rebalances to S&P indexes take place, and important European bond auctions go off – all between Sept 19-21. Correlation between the US dollar index and the S&P 500 is nearly symmetrical to late April’s when we warned clients of an imminent market retreat. Stocks then declined a thousand points over several weeks until the dollar in July began its longest slide since the Flash Crash. Beware risks.

In the data, evidence abounds. We’ve seen stocks curiously leap ex-dividend, whole peer groups shoot up 15%, and random shares move double digits up or down in two days without regard to the market or the peer group. Global statistical arbitrage – using math to calculate trading spreads globally – is rampant in behaviors, including the normally “rational” slice. As high as we’ve ever seen. (more…)

Trading at the Speed of Light

When you were a kid, did you lie on your back on the lawn and look for shapes in the clouds?

Nanex finds Charlie Brown and unicorns in trading data. Or maybe goblins and Jack the Ripper. IR professionals should know about Nanex. In Boston last month, I asked for a show of hands from IR folks who’d heard the name. No one had.

Nanex is the electronic microscope for markets, zooming in on trades and quotes in thousandths and millionths of a second. They find shapes, patterns. What Nanex calls crop circles.

These are footprints of algorithms. On September 15, 2011, at 12.48.54.600 hours Eastern Time, Nanex discovered that in one second of trading in YHOO, encompassing some 19,000 quotes and 3,000 trade-executions, a number of trades matched at quotes that didn’t exist until 190 milliseconds after the trades occurred. Nanex termed this apparent evidence of time-travel in trades “0.19 fantoseconds.”

Sure, laugh it up. When asked what might limit it, Illinois Institute of Technology HFT expert Ben Van Vliet responded: “The speed of light.” (more…)

Among the eight panelists pondering how to forestall another Flash Crash, my favorite quote comes from Columbia professor and Nobel winner in Economic Sciences Joseph Stiglitz, who said in a 2008 paper: “Dollars are a depreciating asset.”

Potent statement. I invite you to consider its ramifications some other time, however. Let’s discuss what the Flash Crash Panel’s recommendations mean to the IR chair. They will affect how your stock trades.

We read all fourteen ideas. They range from charging traders for excessively posting orders and cancelling them, to setting limits on the permitted up/down movement of stocks and imposing circuit breakers for all securities save the most thinly traded. The panel clearly aimed at addressing investor uncertainty through controlling outcomes. If stocks are constrained to ranges, and algorithms to supervision, incentives are adjusted to encourage this, and fees imposed to stop that, the net result will be less uncertainty, the panelists hope.

The net result will be a market suited only to passive index money. If that’s what you want then you’ll be happy. If you want vital markets, where investors can differentiate your shares from other stocks, then a market built around rigid conformity is not for you. (more…)

Nobody Wants to See You Naked

Should we ban nakedness?

The SEC thinks so. Continuing a raft of rules in response to the Flash Crash, the commissioners voted last week to restrict “naked access,” or trading at somebody else’s terminal.

Executives and IR professionals, you’ll get questions. Your shares are affected by these rules. What do you know about naked access, and is stopping it good? (more…)