The flash crash of May 6 was sparked by a rapidly executed $4.1bn sale of stock index futures by a single institutional investor who was hedging against the risk of a market downturn, a report by leading US regulators said on Friday.
The 104-page report said the order was completed so quickly - in just 20 minutes - that it triggered wild automated selling by computer traders, which wiped out nearly $1,000bn off the value of US shares for a period of several minutes.
Regulators were unable to explain why the unnamed seller demanded that the trade be executed so quickly. Regulators said they had never heard of a trade of that size done in such a limited time frame in the last 12 months.
The brief collapse in share prices revealed the vulnerabilities of a highly fragmented equity market dominated by high-speed electronic traders. It also has fuelled debate on whether greater regulation of high-speed traders is needed to protect the interests of individual investors.
The report by the Securities and Exchange Commission and the Commodity Futures Trading Commission stopped short of recommending further regulatory responses to the flash crash. Following May 6, regulators ordered exchanges to adopt measures to stop trading when prices swing too wildly.
“We now must consider what other investor-focused measures are needed to ensure that our markets are fair, efficient and resilient, now and for years to come,” said Mary Schapiro, SEC chairman, and Gary Gensler, CFTC chairman, said in a joint statement.
The report said the starting point of the flash crash was the sale of 75,000 so-called e-Mini futures contracts on the S&P 500 stock index, worth $4.1bn, which a large institutional investor placed via an automated trading system.
The investor wanted the order to be completed as quickly as possible and at any price. As a result, it was completed within 20 minutes even though similar trades by the same investor had been done over several hours. The quickly executed trade left other trading systems scrambling to respond.
The report uses charts to show the knock-on effects of the trade, which it says included two “liquidity crises”: one in e-mini futures and another for individual stocks.
“May 6 was also an important reminder of the inter-connectedness of our derivatives and securities markets, particularly with respect to index products,” said the report.
US retail investors have been pulling money out of the market since the May 6 flash crash, sending trading volumes sharply lower. This retail retreat has continued despite September’s strong rally in US share prices.
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