05.07.2014
By Terry Flanagan

‘Flash Crash’ Four Years Later: Are Markets Safer?

Four years after the ‘flash crash’ of May 6, 2010, its causes and implications for market participants are still debated. For some, the only resolution is that there has been no resolution.

“The market place is no different than it was back on May 6, 2010,” said Korey Bauer, market technician and analyst at Castle Financial & Retirement Planning Associates. “Markets move quickly and will remain fast from the implementation of high-frequency trading and other computer trading firms that can move the tape in milliseconds, which is faster than any human can react.”

The markets have changed in some aspects, and not so much in others. “While we now have greater protections in place to help prevent similar events, market anatomy is arguably more complex today than it was four years ago,” said Ryan Larson, head of equity trading (U.S.) at RBC Global Asset Management. “Certain entities who claim to be liquidity providers can still only provide conditional liquidity, just as they had on May 6, 2010, and just as they do in today’s environment. We are moving in the right direction, but more work needs to be done.”

Ryan Larson, RBC Asset Management

Ryan Larson, RBC Asset Management

In an April 15 speech, Gregg Berman, associate director of the U.S. Securities and Exchange Commission’s Trading and Markets Division, said that laying all of the market’s problems at the feet of HFTs was simplistic.

“Since the flash crash of May 2010, I’ve read many, many articles questioning whether advances in technology have led to more complicated and quicker markets that are now, perhaps, too complex and too fast for their own good,” he said. “But this assumes that the exclusive driver of all this complexity and speed is that some set of market participants continuously seek to outperform each other by developing faster and newer technologies.”

What’s missing from the argument, said Berman, “is that as much as technology has driven complexity, the desires of investors and investment managers — how they want to trade, the products they create, what they want to buy — requires an unavoidable increase in the complexity of our markets, and in a very real sense is also driving the need for more and faster technologies.”

In the wake of the flash crash, controls were put in place—in the form of SEC rule 15c3-5–to stop erroneous trades from entering into the marketplace – thereby reestablishing integrity in the markets.

“Prior to the flash crash, we had naked access to the marketplace, which was bad because your order flow is not going through any type of filtering mechanism,” said Walter Ferstand, regulatory compliance expert at NICE Actimize. “Overall these new rules are proving to be good but we still seem to be in a reactive mode. We still need to change this and be more proactive, and we need to help regulators stay ahead of the curve and not behind it.”

From the standpoint of the buy side, “clients have taken more control over order routing decisions–from working closer with their brokers to managing their own in-house routing infrastructure,” said Alfred Eskandar, CEO of Portware. “Clients are utilizing real-time analytics and destination/venue analysis to interact with HFT safely. This enables them to have greater control and better reporting and monitoring tools.”

Both regulators and practitioners have come a long way since the flash crash, implementing new rules and new technology, noted Robert Young, CEO of Liquidnet Canada.

“Informed participants can now both detect and mitigate price volatility,” he said. “This is important, because in some markets there remain predatory participants, whose intent – not simply their technology per se – can be disruptive.”

Beyond rules and technology, markets and brokers are providing transparency about order handling and about market participants. “Liquidnet has long felt that giving investors informed choice will increasingly add a commercial aspect to the battle, with informed investors’ choices starving firms and markets that cater to disruptive players,” Young said. “This trio – better regulation, improved technology and above all, informed choice – have moved our markets forward significantly in 4 years. And they will continue to do so.”

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