October 27, 2021

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.

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