Tuesday, September 21, 2010

Regulating Electronic Trades

I've been reading (The Atlantic) some (WSJ) analysis (Nanex) of the May 6th "flash-crash".

There is increasing evidence that the events of May 6th is an emergent symptom of either simple automated trading gone wrong, or the more sinister case of traders abusing the speed of the market by flooding it with bogus queries.

New milli-second resolution analys of trades are showing that some entity/entities are flooding the market with quotes to buy or sell and cancelling them within the second. Sometimes upto 7000/second. This looks to me like some kind of co-ordinated DoS attack on the market to destabilise or delay other automated trading systems and take advantage of the chaos. This is particularly troubling:

For example, on Aug. 17, from the start of stock trading at 9:30 a.m. until just after 9:51, there were, on average, 38 orders every second to buy or sell shares of Abbott Labs through the New York Stock Exchange, according to Nanex.

Then, in the span of one second, 10,704 orders hit Abbott and in the next second, another 5,483. And all but 14 of those combined orders were canceled within one second, according to data from Nanex.

Sounds like a classic DoS to me.Also (from the same source):

For example, on Feb. 18, trading volume on the Nasdaq exchange totaled about 1.247 billion shares, according to data compiled by T3 Capital Management, a New York hedge fund. However, over the course of the same day traders submitted offers to buy or sell stock for roughly 89.704 billion shares. In other words, only 1% of the orders posted on Nasdaq actually traded.

Clearly there needs to be a non-trivial cost associated with each quote - this is similar to the email spam problem. You can brute force a system quite happily if the per event cost is zero or nill. This type of market manipulation will continue until either the market fails (only to repeat the same mistake in future, I'm sure) or it's regulated.