The CFTC will review algorithmic trading to see if there is anything “inherently disruptive” about it. Algorithmic trading was implicated in the infamous “flash crash” of May 6, earlier this year – when markets plunged dramatically in a matter of seconds and then almost equally quickly recovered.
The CFTC will examine these algorithmic strategies in which traders’ computers robotically submit and then robotically cancel thousands of orders in milliseconds. One of the issues that the CFTC will examine is whether these strategies were designed to trick other computers into making decisions that the instigating traders’ computers could exploit for profit. (When used for those kinds of ends the “mal”- trades are known as “spoofing” and “quote stuffing”). For example, there was a trade of 75,000 E-mini futures (notional amount approx $4,125,000,000.00) on May 6, 2010 executed algorithmically that had no apparent regard for price or timing that is sure to be scrutinized by the CFTC.
As to the E-Mini trade, an already published SEC report on the Flash Crash noted that: “Starting at 2:45:28 p.m. [on May 6, 2010], CME’s Globex stop logic functionality initiated a brief pause in trading in the E-mini S&P 500 futures. This functionality is initiated when the last transaction price would have triggered a series of stop loss orders that, if executed, would have resulted in a cascade in prices outside a predetermined ‘no bust’ range (6 points in either direction in the case of the E-mini). The purpose of this functionality is to prevent sudden, cascading declines (or increases) in price caused by order book imbalances.” SEC report "Preliminary Findings Regarding the Market Events of May 6, 2010"
Of considerable legal interest, under Dodd Frank, the standard by which the CFTC will review such trades as being illegal has been reported to have been reduced from showing manipulation down to one of showing recklessness – a considerably lower level of culpability.
Finally, a company called Nanex has reported in great analytical detail on the Flash Crash in its Flash Crash Analysis. For those interested in the technical aspects of this topic, the Nanex analysis is compelling reading indeed.
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Robert Kiggins, Esq. of McCarthy Fingar LLP, is author of the blog, and may be reached at (914) 385-1024 or rkiggins@mccarthyfingar.com. Nothing in this blog is legal advice and readers should not rely on anything in this blog as being legal advice.
