The Flash Crash was created by...

[Iason Ouabache]

... a single mouse click in Kansas.

Sorry, couldn't find the original thread about the "Flash Crash" back in May so I'm doing the follow up here.

http://www.nytimes.com/2010/10/02/business/02flash.html?_r=1&hp

It was a stock market mystery that had everyone guessing for months: just what caused that harrowing flash crash last May?

On Friday, after months of investigation and speculation, federal authorities finally provided the answer: it all began with the click of a computer mouse in Kansas.

In a long-awaited report on one of wildest days in Wall Street's history, regulators said that the automated sale of a large block of futures by a mutual fund — not named in the report, but identified by officials as Waddell & Reed Financial, of Overland Park, Kan. — touched off a chain reaction of events on May 6. The Dow Jones industrial average plunged more than 600 points in a matter of minutes that day and then recovered in a blink.

The finger-pointing and speculation that followed — Were high-speed traders behind it? A rogue computer program? Financial terrorists? — captivated Wall Street. But in the report released on Friday, the authorities said they found no evidence of market manipulation. Instead, the temporary crash resulted from a confluence of forces after a single fund company tried to hedge its stock market investment position legitimately, albeit in an aggressive and abrupt manner.

The mutual fund started a program at about 2:32 p.m. on May 6 to sell $4.1 billion of futures contracts, using a computer sell algorithm that over the next 20 minutes dumped 75,000 contracts onto the market, even automatically accelerating its selling as prices plunged...

The report set out the sequence of events that began with the sale by Waddell & Reed of 75,000 E-Mini Standard & Poor's 500 futures contracts, using computer sell algorithms. Normally, a sale of this size would take place over as many as five hours, but the large sale was executed in 20 minutes, the regulators said.

The algorithm was programmed to execute the trade "without regard to price or time," the report said, which meant that it continued to sell even as prices dropped sharply.

The algorithm is one used widely across markets. It was provided to the firm by Barclays Capital, but it was up to Waddell & Reed to set the parameters dictating the way it sold the futures contracts.

There was no explanation from officials why the firm chose to sell so many contracts all at once, except to speculate that it was already late in the trading day when it made the sale. Neither would officials explicitly say whether or not the firm was under investigation, but they pointed out that the firm had made similar trades in the past.

It's amazing how a small stimuli could create so much chaos in such a short amount of time. It's surprising that something like this doesn't happen more often. There are currently no safeguards to prevent it from happening at any time.

[Cain]

Barclays, incidentally, was one of the big winners of the global economic crash, and the head of their capital division is now the CEO of the entire bank.

So I would expect this to start happening a lot more often.

[Disco Pickle]

regulation hasn't caught up to the tech being used.

as long as they're still trading within the current legal framework of what is called a legal trade, the parameters they set in the program are left up to the trader to decide.

I imagine you'll see some tweaks and threshold limits in the programs so that they do their own sort of error checking of their actions against the reactions of the market as a whole.  Maybe having the program operating in a simulation setting before being run in the real world.

At least, that's the sort of thing I would implement.

[Durivan]

Requiring limits being put on trading programs would work but will be highly resisted. I think this one trade lacked limit because they were fulling intending on dumping what they were selling, just not as fast or for as low as the trades ended up happening.

I also don't think running simulations would help at all, mainly because you don't know how other programs will react.  This one trade didn't cause the flash crash itself, it was just the initial spark, it required the interaction of this one program and several other trading programs to cause the crash.  While these programs work fine on their own they will sometimes cause things to go crazy when they start interacting with each other.