Equity Plunge Yen Connection; Reflections on Ponzi Markets and Program Trading

Inquiring minds are digging deeper into the mysteries of Thursday's stock market plunge starting with an intraday chart of the Yen.

Japanese Yen vs. US$



click on chart for sharper image

The Yen rose 4 cents in an hour vs. the US dollar. Wow.

Now let's invert the chart and overlay a chart of the S&P 500 on top of it.

Please consider the following chart courtesy of "OMI" who emailed me late afternoon.

S&P 500 vs. Yen



click on chart for sharper image

45 minutes before US equities went into a waterfall dive, the Yen went into a skyrocket rally vs. the US dollar (inverted on the above chart).

The Yen and the stock market magically stabilized at exactly the same time, right at the equity bottom.

Yen Erases 50% of Gain Against Euro on G-7 Greece Speculation

Inquiring minds are reading Yen Erases 50% of Gain Against Euro on G-7 Greece Speculation

The yen dropped versus all 16 major counterparts after the Bank of Japan said it will pump 2 trillion yen ($21.8 billion) into the banking system and the nation’s finance minister said the Group of Seven nations will discuss Greece’s fiscal woes.

“The emergency fund injection from the BOJ helped ease risk aversion, triggering selling of the yen,” said Hiroshi Maeba, deputy general manager of foreign-exchange trading in Tokyo at Nomura Securities Co., Japan’s biggest securities broker. “The action here also spurred speculation that the European Central Bank and the Federal Reserve may follow suit.”

The yen slid as much as 3 percent, the most since Feb. 24, 2009, and traded at 117.79 per euro as of 1:02 p.m. in Tokyo. The yen closed at 114.32 against the euro in New York yesterday after touching 110.70, the strongest since December 2001.

The Bank of Japan’s emergency measure represents its first same-day repurchase operations since December. The balance of current-account deposits held by financial institutions at the central bank will likely increase to 16.9 trillion yen, up 800 billion yen from yesterday, the BOJ said.

Japan’s currency still headed for a 6.1 percent weekly advance versus the euro, its largest gain since the week ended Oct. 24, 2008, as concern Europe’s debt crisis will derail the global recovery damped demand for riskier assets.

Citigroup Blamed But Not At Fault

Amazingly the equity plunge was originally blamed on Citigroup, an idea I found laughable as noted in Citigroup Trading Error Cause Market To Crash? Citigroup Says No

Regardless of what anyone finds, a trading error did not cause this collapse. The market collapsed because it was ready to collapse. A retest is likely coming up, especially if shorts covered in that dramatic rise off the bottom.

Role of Computerized Trading

Larry Leibowitz, the chief operating officer of NYSE Euronext says Electronic Trading to Blame for Plunge

Computerized trades sent to electronic networks turned an orderly stock market decline into a rout today, according to Larry Leibowitz, the chief operating officer of NYSE Euronext.

While the first half of the Dow Jones Industrial Average’s 998.5-point plunge probably reflected normal trading, the selloff snowballed because of orders sent to venues with no investors willing to match them, Leibowitz said in an interview on Bloomberg Television.

Program Trading and Ponzi Markets Don't Mix

Inquiring minds are reading a great writeup on Jesse's Café Américain called PLUNGE! 1987 Style Sudden Drop in US Stocks Driven by Program Trading and a Ponzi Market Structure

The entire stock market rally which we have seen this year off the February lows resembles a low volume Ponzi scheme, and formed a huge air pocket under prices.

This US equity rally was driven by technically oriented buying from the Banks and the hedge funds. There was and still is a lack of legitimate institutional buying at these price levels. This was machine driven speculation enabled by the lack of reform in a system riddled with corruption, from the bottom to the top.

This is yet another indication that the US regulatory and market oversight organizations, especially the SEC and CFTC, continue to be disconnected from and remarkably ineffective in their responsibilities in guarding the public against gross market abuse, price manipulation, and insiders playing games with cheap money supplied by the NY Fed.

And as you might expect, the anchors on financial television are trying to excuse and blame the sell off on a 'fat finger' order that caused Procter and Gamble to drop 20 points in 45 seconds. Or a typist inputting an order to sell 16 million e-mini SP futures, and typing "B" instead of "M." Oops. Crashed the free world.

Even if any of this was true, it was just the spark that caused the market to plummet because of its highly unstable and artificial technical underpinnings. There is no longer any legitimate price discovery. The US financial system is a casino, dominated by a few big Banks and hedge funds, the gangs of New York.

They'll never learn. Or is it 'we?' They may not really care.

Did Shutdowns Make Plunge Worse?

The Wall Street Journal is asking the question Did Shutdowns Make Plunge Worse?

A number of high-frequency firms stopped trading Thursday in the midst of the market plunge, possibly adding to the market's selloff.

Tradebot Systems Inc., a large high-frequency firm based in Kansas City, Mo., closed down its computer trading systems when the Dow Jones Industrial Average had dropped about 500 points, said Dave Cummings, founder and chairman of the firm.

Tradeworx Inc., a N.J. firm that operates a high-frequency fund, also stopped trading during the market turmoil, according to a person familiar with the firm.

Mr. Cummings said Tradebot's system is designed to stop trading when the market becomes too volatile, too fast. "That's what we do for safety," he said. "If the market's weird, we don't want to compound the problem."

High Frequency Trading

Let's backup for a second and consider High Frequency Trading (HFT).

In very broad terms, high-frequency trading refers to the buying and selling of stocks at extremely fast speeds with the help of powerful computers. Using complex algorithms, these computers can scan dozens of public and private marketplaces simultaneously, execute millions of orders a second, and alter strategies in a matter of milliseconds.

In the U.S., high-frequency trading firms represent 2.0% of the approximately 20,000 firms operating today, but account for 73.0% of all equity trading volume.

On 24 July 2009, Karl Denninger of The Market Ticker accused high-frequency traders of "intentionally probing the market with tiny orders [...] to gain an illegal view into the other side's willingness to pay. This pattern of offering [sell orders at different levels] was intended to do one and only one thing; manipulate the market by discovering [...] a hidden piece of information - the other side's limit price!" He went on to argue that "the presence of these programs [would] guarantee huge profits to the banks running them" and that "retail buyers would get screwed as the market [moved] much faster to the upside than it otherwise would."

One thing is for certain, a whole bunch of people with "far away" sell stops got taken to the cleaners today.

Computers vs. Computers

Here is a snip I wrote earlier today from Black Swan in Computer Trading? Nasdaq to Cancel Some Trades; Plunge Raises Alarm on Computerized Trading

In essence computers trading against computers decided at some point today to throw in the towel and not bid. Lovely, isn't it?

I have been waiting for this to happen and today it did. Supposedly, computer trading lowers volatility and bid/ask spreads for traders. Today we see that works until it doesn't.

By the way, this was not really a "black-swan" event. This was perfectly predictable although timing it was not. I have been discussing this scenario with a few friends for months.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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