Although they don’t come out and say it’s name, the SEC’s new report on the causes of the May 6 Flash Crash blames Waddell and Reed’s e-mini futures order for the crash.Here’s where the SEC points out Waddell and Reed, and their CEO Henry Herrmann, in everything but name:
Against a backdrop of negative market sentiment and thinning liquidity, at 2:32 p.m., a large Fundamental Seller (a mutual fund complex) initiated a program to sell a total of 75,000 E- Mini contracts (valued at approximately $4.1 billion) as a hedge to an existing equity position.
This large Fundamental Seller chose to execute this sell program via an automated execution algorithm (“Sell Algorithm”) that was programmed to feed orders into the June 2010 E-Mini market to target an execution rate set to 9% of the trading volume calculated over the previous minute, but without regard to price or time.
The execution of this sell program resulted in the largest net change in daily position of any trader in the E-Mini since the beginning of the year.
And just like that, they say that Waddell and Reed’s e-mini futures trade was the single most extreme movement of the day, and thus it should be blamed for the flash crash. (We know it’s Waddell because of reports from earlier this year.)
At the opposite end of the spectrum, is the NYSE, which the SEC names and says had no negative effect on the proceedings of that day on May 6.
And they vindicate the NYSE for their “slowed” market making, caused by the exchange ‘s LRPs (liquidity replenishment points), which are exclusive to the NYSE.
LRPs are “pauses” that are triggered by price volatility. When people place bids with the exchange that are outside of a certain range (greater than a 10% price swing), which is a typical occurrence during times of high volatility, automatic executions pause to make time for new buyers to enter the market.
From the report:
During a LRP, automatic executions will cease for a time period ranging from a fraction of a second to a minute or two to allow the Designated Market Maker (“DMM”) to solicit and/or contribute additional liquidity.
Normal daily numbers (of LRPs lasting more than a second) are 20-30. During the Flash Crash (from 2:30-3 pm) they were at 1000.
So you can see why the NYSE might have been somewhat blamed for decreased liquidity during the flash crash, as they were – because the exchange waited to connect buyers and sellers rather than buy the orders themselves (but as a result of this, they didn’t have to cancel any orders, so it turned out to be a good move).
But the report determines that their speed bumps had no direct effect on the flash crash, they were just a result of it.