Market Crash

Flashy Crashy. Is History repeating itself, or is this time different?

I fully believe that we may in fact be on the verge of a Crash in the markets. All the Red Flags are there. Europe’s entire banking system is on the verge of systemic collapse. Take a look at European banks and you’ll see what I mean.

In keeping with the tradition of always blaming something for everything that doesn't do quite as expected, be it the rain, the heat, the cold, the snow, (henceforth known as "the climate"), the earthquakes, the tsunamis, the nuclear power plant explosions (henceforth known as "the life"), or simple things (no pun intended) such as former presidents (henceforth known as the "Bush"), even when the current one is campaigning hard for this second term, we now have identified the one and only culprit for the market collapse: Europe. As the following chart from John Lohman demonstrates, just like back in 2009/2010 the entire market move higher was due to POMO days and the "first Monday" phenomenon (between these two events alone, they accounted for about 120% of the entire market move higher) in the past two years, so now we have the inverse situation, whereby almost the entire drop in stock can be blamed on Europe. Specifically, well over twice the market decline since the beginning of July can be traced to market hours in which Europe is open, while the drop in hours when Europe sleeps is completely unremarkable. For the arb-minded, this means that selling the Europe close to Europe open and buying the Europe open to Europe close boundaries will result in outsided returns. Then again, this has been known for a while: as we tweeted today at 11:30 am Eastern when Europe close, we expected the melt up to proceed. Sure enough, 150 DJIA points later, this was the only catalyst that was required. However, a caveat: these simplistic trades usually work amazingly well, until they don't and someone ends up getting badly hurt.

What makes this so interesting is that this bank is sitting under everybody's nose yet no one suspects it. KaBoom!!! Nuclear chain reaction thoughout Europe based on panic, greed, avarice and fear? Oh well, back to the trade at hand...

We are currently witnessing a pattern in the stock markets that has occurred multiple times in the last century. This pattern has occurred in 1907, 1929, 1931, 1987, 2000 and 2008. And every time it ended in misery.

Three days after the Flash Crash of Thursday, May 6, 2010 I posted a fictional story on Zero Hedge describing what might have happened. To commemorate the anniversary I have rewritten, novelized and illustrated that posting and present it below for your reading pleasure.

This could get ugly, prepare to go 'old school'!

Somewhat ironically, up until the Texas Instruments news hit, NYSE market volume today was 3.2 billion shares. This is on par with the lowest non-holiday market volume since just before the market crash in September 2008. It seems not even algos and robots care to trade this market anymore. Any banks that may have been hoping to make some commission-based profits on a mythical jump in trading this uear will have to shelve such plans and continue to rely on the only proven money-making model: massively leveraged prop trading.

I said it! Bill Gross said it (and put his money where his mouth was by selling off all US treasuries)! Common sense says it... Central Bank manipulated interest rates are too low. They will rise. What happens when they rise during a supply glut of real estate, foreclosure issues and a slow economy??? Put it this way... What made the markets crash in 2008: unemployment, slow economy, snow... Or real estate prices getting in touch with reality?

There is a real sense of the “calm before the storm” in markets globally. Complacency reigns, despite signs that the sovereign debt crisis in Europe is deepening and that Japanese and US bond markets also look very vulnerable due to rising inflation, very large deficits and massive public debt. US Treasuries have been sold by some of the largest investors (both private and sovereign) in the world recently (see news). These include large creditor nations Russia and China but also PIMCO, the largest bond fund in the world. A global sovereign debt crisis is now quite possible. At the very least, we are likely to have a long period of rising interest rates which will depress economic growth. Contrary to some misguided commentary, rising interest rates will benefit gold as was seen when interest rates rose sharply in the 1970s. It was only towards the end of the interest rate tightening cycle in 1980, when interest rates were higher than inflation, that gold prices began to fall.

It was ten short days ago that the Bangaldesh stock exchange was closed for the 2nd time in a month, after it plunged by almost double digits in the span of minutes. Subsequently, it pulled as US-type flash crash, PPT-sponsored HFT recovery.... only to make third time the charm: BBC reports that earlier today the Bangladesh index fell 8.5%, or 587 points, which forced regulators to suspend trading.This is the third suspension in a about month and the second free fall plunge in January. Everyone in Asia is getting spooked by China's lack of liquidity. But not the US. We are all hoooou kay. But that's not all. The chery on top is that the Bangladesh regulator, which more than anything is in dire need of its own plunge protection team, or least GETCO to serve as "DMM" (wink wink) for the entire exchange, has suspended brokers for having the temerity to sell into today's collapse. In other words: next time someone tries to sell into a market plunge, tough luck.

Paul Farrell lights it up in his latest market commentary, which puts even some of the more hard-core realists out there to shame: "Wall Street is a loser. Stocks are Wall Street’s ultimate sucker bet.
And it’ll sucker you again. You’ll lose, worse than in the last decade.
Wake up before Wall Street banks trigger the next meltdown, igniting
mass bankruptcy." Um, wow. And seeing how we have been saying that only absolutely immaculate top tickers should be in this market, we agree wholeheartedly with Farrel.

Market-neutrals are deleveraging at a rapid pace breaching the 50-ma on Friday. Is this indicative of a market drop in the coming days as market liquidity is disappearing and no one is trading?

In a unorthodox piece by the WSJ, which goes direct to discussing some of the less than pleasant possible outcomes of central planning, Brett Arends asks "could Wall Street be about to crash again? This week's bone-rattlers may be making you wonder" and says: "way too many people are way too complacent this summer. Here are 10 reasons to watch out." And without further ado...

Even as the idiots at the SEC mope about cluelessly, confirming they deserve not one cent of taxpayer money to fund their massively overbloated budget, and should all be summarily fired to collect tarballs in the Gulf of Mexico (and soon Maine), our friends at Nanex have conducted an exhaustive analysis (must read for everybody concerned about market structure), in which they identify the various parties responsible for the market crash, and, drumroll please, High Frequency Trading stands at the pinnacle of culprits for the 1,000 point Dow drop. From their findings: "While analyzing HFT (High Frequency Trading) quote counts, we were
shocked to find cases where one exchange was sending an extremely high number
of quotes for one stock in a single second: as high as 5,000 quotes in 1
second! During May 6, there were hundreds of times that a single stock had over
1,000 quotes from one exchange in a single second. Even more disturbing, there
doesn't seem to be any economic justification for this. In many of the cases,
the bid/offer is well outside the National Best Bid/Offer (NBBO). We decided to
analyze a handful of these cases in detail and graphed the sequential
bid/offers to better understand them. What we discovered was a manipulative
device with destabilizing effect." In other words: enough with all the bullshit about HFT as a liquidity provider mechanism: in reality this is just a facade for the most insidious, computerized market manipulative device ever created. Nanex' conclusion: "What benefit could there be to whomever is generating these extremely high
quote rates? After thoughtful analysis, we can only think of one. Competition
between HFT systems today has reached the point where microseconds matter. Any
edge one has to process information faster than a competitor makes all the
difference in this game. If you could generate a large number of quotes that
your competitors have to process, but you can ignore since you generated them,
you gain valuable processing time. This is an extremely disturbing development,
because as more HFT systems start doing this, it is only a matter of time
before quote-stuffing shuts down the entire market from congestion. We think it
played an active role in the final drop on 5/6/2010, and urge everyone involved
to take a look at what is going on. Our recommendation for a simple 50ms quote
expiration rule would eliminate quote-stuffing and level the playing field
without impacting legitimate trading."