Last Tuesday’s fake tweet from a hacker that broke into the AP's Twitter account, has led to some conversations about the controls placed on machines in response to news feeds and the risk of their setting off a panic.
Even though the jolt was momentary, the Dow tumbled 143 points after algorithms read the fake AP tweet. Regulators are said to be concerned about last week’s incident and what it means for the stability of financial markets that are dominated by high frequency trading.
In an interview with CNBC this morning, James Angle, professor of finance at Georgetown University, said he’s worried about the next glitch. Angel for the most part defends HFT. He tells the reporter HFT is not causing higher volatility in stocks and that by every measure of market quality, “Our markets look a lot better than they ever did before.” He specifically notes that transaction costs have evaporated and that execution speed is faster than ever.
“However we definitely have glitches when things breakdown and so we definitely need to be worried about the stability of our markets,” the professor told CNBC.
While the reporter contended that there is more volatility now as compared to when we had just floor trading, Angel said that very little of the volatility is attributed to HFT. Most of the volatility is due to macroeconomic factors, he said, noting that volatility surged during the financial meltdown, as it should, and that now it’s down to normal levels.
“We’re not really seeing an increase in volatility but we’re really worried about the next glitch. Is it possible that when the next tsunami of market data hits the market machines will break? And history tells us that they will.The number of technical glitches seem to be on the increase as well. Besides the Hash Crash on Tuesday, a software bug was blamed for an outage at the Chicago Board Options Exchange on Thursday, which caused the exchange to delay trading for over three hours.
As the old bumper sticker says, “IT Happens,” Angel told CNBC. The bigger concern is that computers will react differently than a human being when a wire breaks or some technical blip happens.
According to Angel, the solution is to put containments in place to make sure that when machines fail they don’t damage the economy.
The regulators and exchanges have worked on circuit breakers of various kinds, and they are in place. But Angel said they are in testing now and “crude” and probably need to be refined. It’s not clear how they will react “when the next big stress hits,” he said.
While the markets “got a little taste of that during the Hash Crash next week, when a hacker put out some fake tweets. But what’s going to happen when some real news events hits, we don’t really know," said Angel.
Another factor is the role that for-profit exchanges play since they are looking to boost their volumes by catering to high frequency traders. In a cutaway to the Madrid Stock Exchange, the CEO talks about adding colocation last year and providing low latency infrastructure to traders. In response, Angel concedes that exchanges could impact safety if they cut corners and were not careful with their systems.
One of the easiest ways to boost speed of a system is to take out redundancy checks and safety checks. However the exchanges have a very strong incentive to make sure their machines don’t fail and work properly. If you think about like the Facebook IPO or the big problem of Knight Capital Group, all of these participants understand that if their systems break they can be out of business in a moment.
A far more powerful incentive for than additional regulation could impose would be for the industry to know that they are “one electronic clock cycle away from death,” said Angel on CNBC.
But in the heat of the moment when firms realize they have a problem but think they can fix it, as the CBOE reportedly told people outside the company, standard market-wide safety measures would be prudent. Given the proliferation of recent incidents when firms didn't know they were one-clock speed away from an outage or a trading loss, it seems like sudden death isn't the best deterrent.
Ivy is Editor-at-Large for Advanced Trading and Wall Street & Technology. Ivy is responsible for writing in-depth feature articles, daily blogs and news articles with a focus on automated trading in the capital markets. As an industry expert, Ivy has reported on a myriad ... View Full Bio