Special Feature
“When the GFC finally ended in March 2009, the Dow had dropped 54% from a peak at 14,164 to its final bottom at 6,547 in just 17 months.” In just 8 weeks, between September 29 and December 1, 2008 there were four “crashes” that gained a place in the top 20 list. The first was on September 29, when the Dow declined 777.68 points, or 6.98%. The second slump on October 9, erased 678.91 points from the index — corresponding to a percentage loss of 7.33%. A few days later, on October 15, the Dow lost another 733.08 points, or 7.87%, and, finally, on December 1, the index suffered the fourth sub-stantial loss amounting to 679.95 points, or 7.7%.
The 2010 Flash Crash The 2010 “flash crash” occurred on the afternoon of May 6 and came, quite literally, out of nowhere. To this day, the main reason behind it is still argued over. If the necessary steps had been taken in the aftermath of the 1987 and 1989 crashes, however, the 2010 crash could have been avoided. The continued growth in computer trading and its automation quite simply exacerbated the fall and so the same risks still remain. With the advent of computerised trading, a good proportion of the traditional “market maker” role is now disappearing and pre-programmed computers take decisions based on complex algorithms.
36 | www.financial-spread-betting.com | January 2013
Instead of the human trader placing dozens of trades a day, computers are programmed for high-frequency trading (HFT), holding shares for less than a few seconds in many cases whilst trying to exploit infinitesimally small pricing anomalies. On the morning of May 6 2011, traders woke up to fresh news coming out of Greece and sentiment was poor. The Dow opened in the red, initially dropping little more than 2%. A mutual fund then decided to sell a large number of E-mini S&P 500 contracts in the futures market in order to hedge an equity position they had. Although the orders were placed in a way to avoid disturbing the market, some selling pressure was obviously created. With a broad negative market sentiment, the HFT’s started selling aggressively, quickly passing positions back and forth to exploit the perceived opportunity and, in the process, massively contributing to the amplified selling pressure. With the eroding market conditions the HFT’s then stopped trading, but panic selling continued. Other institutional investors using complex algorithms added to the blood bath. In just a few short minutes, the Dow stood down more than 9% and it seems that sensibility kicked in as real “human” traders shut off the autopilot and assumed the manual commands to drive the market higher again with the index recovering almost all the losses by the close. In an investigation, the SEC blamed the mutual fund that triggered the order for the sharp shakedown, instead of acknowledging that computers were responsible for the scary episode and that new measures should be taken to at least create longer time scaled circuit breakers to protect retail investors. Shares of global companies like Accenture and Exelon dropped to just one cent, and Procter & Gamble declined 37%. Although the markets managed to quickly recover, many retail investors with leveraged accounts certainly saw their funds vanish.