Here Are The Key Findings From The SEC's ETFlash Crash Data Dump

Tyler Durden's picture




 

Via FactSet's Director of ETFs, Dave Nadig,

This week, the SEC gave us a belated Christmas present.  But what does it actually portend?

The present in question is an 88-page "Research Note" from the SEC's Division of Trading and Markets titled "Equity Market Volatility on August 24, 2015." It's an innocuous-enough title, but for us market-structure wonks, it's kind of a big deal.

The conclusions of the piece are purely factual, and include dozens of pages of juicy charts and tables (be still my nerdy heart!). There's little or no conjecture, and there's absolutely no policy recommendations.

It outlines the facts of that fateful trading day, discussing what went wrong, and which classes of securities were affected. It's a gold mine for folks who want to dig in and understand what happens when things break, and, for any investor, it's worth reading at least the first six pages.

Key Findings

Here are the most interesting findings—not just because they're objectively interesting—but because they give you some insight into where the SEC may direct future policy:

  • The SEC goes out of its way to point out that large and small equities—and large and small exchange-traded products—were almost equally affected. It hammers this point home repeatedly. To me, this signals that it is countering an internal (or external) argument that there's a "small-cap problem" when it comes to market structure, or that the liquidity haves/have-nots divide is the fundamental problem.
  • The SEC makes a clear point of highlighting that 60% of the limit-up-limit-down (LULD) halts came when securities were trading up from lows. The not-too-subtle implication is that they're going to revisit the symmetry of the system. This is a good thing. People really only care, in general, about downside volatility. Sure, people building models, shorting or managing risk in a sophisticated way care about overall volatility. Actual investors? Not so much.
  • While it highlights the same issues with the NYSE open and reopen process that I did in a recent blog, it makes a case study of the PowerShares QQQs, which, in tracking the Nasdaq 100, by definition includes no NYSE-listed securities. It points out that the Q's had just as big a discount problem in the heat of the open as did the iShares S&P 500 ETF.

It concludes by saying the things it actually wants to keep researching, and show its hand pretty well here: It wants to focus on how the LULD process works (or doesn't), and it wants to readdress marketwide circuit breakers. It also says it's looking at Reg SHO and the short-sale restrictions, although from my analysis, I don't see this as a contributing factor (but hey, I've been wrong before).

So What Does This All Mean?

It's important to understand the SEC's actions in context, and in total. The SEC is not a singular entity that speaks as one voice with one set of tools. Each division has its own regulatory bailiwick, and its own penchant for action or inaction.

The Division of Trading and Markets is generally concerned with plumbing and exchange regulation, and what we see here is it coming into line with where the big action has been lately, the Division of Investment Management.

The Division of Investment Management oversees mutual funds and ETFs (among other things), and the agenda there going into 2016 is enormously clear. There are more than 600 pages of proposed rulemaking currently out for comment, all of it focused on one thing: risk.

One set of rules has been proposed for managing liquidity risk. Another set of rules has been proposed for managing derivatives (and thus leverage) risk. This all comes after a set of questions back in June where it started treading into Trading and Markets territory, asking about whether exchanges should have look-through responsibilities when it comes to exchange-traded products.

Jumping On Risk Bandwagon

This data dump from Trading and Markets reads to me like a "getting on the risk bandwagon" statement. In general, I'm all for this. The SEC's job is to keep the trains running on time, and days like August 24 and unintended exposures through poorly constructed products are absolutely the kinds of things it should be focused on.

My hope is that it takes its time and really listens, because there are dozens of unintended consequences already baked into its proposed rulemaking. That's bad enough when you're talking about the inner workings of mutual funds and ETFs; it's a bigger deal when we're talking about the inner workings of the markets themselves.

The moral of the story: 2016 is a year in which investors - and investment managers - will need to pay very close attention to what's happening in Washington.

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Mon, 01/04/2016 - 12:37 | 6995755 Kefeer
Kefeer's picture

Nothing here; move on I says.

Mon, 01/04/2016 - 12:49 | 6995809 OldPhart
OldPhart's picture

Not necessarily so, the result of this is to be wary of Washington.  Not that we needed that warning.

Mon, 01/04/2016 - 14:24 | 6996326 mtl4
mtl4's picture

Gotta love the SEC, always hunting for the boogeyman on behalf of the little guy.  ; )

Mon, 01/04/2016 - 12:41 | 6995767 junction
junction's picture

For an example of how the United States really works, ask Bill Cosby, not the SEC.  For over 20 years, as Cosby was the "grim raper," drugging young women and raping them, everyone in law enforcement ignored the rape charges filed against him.  Cosby was lecturing blacks on how to behave at the same time.  Who did Cosby think he was, Al Gore, another serial sexual molester who has immunity?  Or the Bush family, the world's largest drug cartel crime family. 

Mon, 01/04/2016 - 12:46 | 6995792 Lady Jessica
Lady Jessica's picture

Al Gore, another serial sexual molester

I think you might have misspelt "climate change proponent".

Mon, 01/04/2016 - 12:47 | 6995803 Cognitive Dissonance
Cognitive Dissonance's picture

Now THAT was freaking funny. +100

Mon, 01/04/2016 - 12:50 | 6995821 DetectiveStern
DetectiveStern's picture

He still fucks kids though.

Mon, 01/04/2016 - 13:22 | 6995940 Gamma735
Gamma735's picture

The Clintons give the Bushes a run for their money on that one.

Mon, 01/04/2016 - 12:41 | 6995771 Lady Jessica
Lady Jessica's picture

Remind me, please, why ETFs should exist at all.

Mon, 01/04/2016 - 12:50 | 6995814 Cognitive Dissonance
Cognitive Dissonance's picture

Because they are a financial 'product' that 'produces' a continuous stream of fees all around?

<What do I win Lady Jessica?>  :-)

Mon, 01/04/2016 - 13:01 | 6995862 NYPoke
NYPoke's picture

ETFs do produce fees, but they also own the underlying product.  ETNs, however, produce fees & own nothing.

 

The ETNs should be the target.  Given that the Feds are in charge, I doubt that actually happens.

Mon, 01/04/2016 - 12:46 | 6995786 buzzsaw99
buzzsaw99's picture

the sec works for the squid

the rest of us, not so much

Mon, 01/04/2016 - 12:47 | 6995799 Buckaroo Banzai
Buckaroo Banzai's picture

An honest investigation of the facts? What am I missing? What are these fuckers at the SEC up to now?

Mon, 01/04/2016 - 16:38 | 6997063 StychoKiller
StychoKiller's picture

Umm, pr0n with other species?

Mon, 01/04/2016 - 12:56 | 6995824 Boris Badenov
Boris Badenov's picture

SPY and QQQ are de-facto cash based futures contracts.

Mon, 01/04/2016 - 12:55 | 6995839 Yancey Ward
Yancey Ward's picture

Markets in the US close green today????

Mon, 01/04/2016 - 12:58 | 6995852 Boris Badenov
Boris Badenov's picture

Wishful thinking after a gap-down open, and a lower low since the secondary top on 11/03/2014. But what do I know?

Mon, 01/04/2016 - 13:29 | 6995980 Colonel Klink
Colonel Klink's picture

"Research report", should be fucking evidence for criminal conspiracy but the SEC and JUSTUS department are captured and corrupt to the highest levels of office.

Mon, 01/04/2016 - 13:47 | 6996085 TheDanimal
TheDanimal's picture

If a market has "circuit breakers", just how liquid is it really?

Mon, 01/04/2016 - 14:22 | 6996320 petroglyph
petroglyph's picture

Bet wall street never saw that one coming. sarc

Somehow they have gates set up on 401k's, but let cdo's cubed destroy nations? wtf

Mon, 01/04/2016 - 14:39 | 6996405 Atomizer
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