Many like to come to the defense of "algos" and HFT arguing that they tightened spreads and provided market liquidity and transparency.
I say bollox to that!
They killed off 10s of thousands of well paid jobs (efficiency is terrible for the job market), especially with the older, less tech-savvy crowd on the desks. And they're also creating periodic flash crashes, exacerbating intra-day moves, increasing volatility (and not the good kind of volatility that speculators like) and erratic and choppy price action. If you disagree then you’re either not in the market, or you’re a Fintech investor...or an exchange owner...or just a troll.
Last Thursday at 7:30am EST, the ECB released the minutes of its latest meeting and there really wasn't much new in the doc. The only thing really worth discussion was a mention of their openness to greater flexibility in loosening the capital key and buying more German bunds as part of their QE program. So this was - at the margin - modestly bullish bunds and modestly bearish peripheral EU sovereign debt.
Well, right on the dot at 7:30am (algos tend to react on round numbers) the French and Italian 10 year bonds ripped and took out the entire range of the past few weeks and stopped all the shorts out INCLUDING ME (granted there was and continues to be heavy positioning in EU spreads; long bunds vs shorts in French and peripheral EU sovereign bonds, so shame on me). As for the bunds, nothing happened…
Here are some daily and tick charts below for your amusement (OATH7 = French 10y, IKH7 = Italy 10y, RXH7 = German 10y Bund).
Our broker called the exchange EUREX to complain. Apparently they don’t have circuit breakers. They use a "volatility interruption” mechanism (but wouldn't give details on how it works for fear the algos then exploit it, wow). When this gets triggered they halt the market, delete all high frequency orders, and hold an auction to determine fair value and then re-open the market, all in a few seconds.
Sure, this erratic vol has always existed in markets (fat fingers etc), and if you want to trade you gotta deal with it. But what’s different here is whatever happened was very likely either caused by or exacerbated by algos that were programmed to intentionally exploit this and line someone else’s pockets. It’s likely a traditional fat finger or communication error wouldn't have pushed prices up so far and so fast. These "someone else’s" are very rich, very well-capitalized and super politically connected, so it wouldn’t be a stretch to assume they’re protected from snooping regulators and customer complaints, especially after so many high profile scandals like the 2010 equities flash crash and the more recent EUR and GBP flash crashes in illiquid early Asian hours…
Morale of the story? Don’t use stops, or just don’t trade… Problem is that complicates and drives up hedging costs for bona fide hedgers; complicate hedging and will you see a pull back in investment decisions? Weren’t financial markets originally created for these institutions to hedge risk and access liquid financing? Forget about clearly illegal stuff like spoofing, these algos are just creating a ton of noise, and Dodd-Frank (and technology, and HFT market makers) killed off the traditional bank trading desks that would have been able to absorb these erratic confusing moves.
Market-making algos? Ok, I can live with that. Algo speculators? Call me a Luddite, but they have no business here…
(and my apologies to the low latency algorithmic automated traders who get annoyed when we confuse them with the HFT fleas!!)
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