Presenting Why The SEC's Proposed "Market Volatility" Contingency Plan Is A Failure, Even As The SEC Continues To Lie To Everyone

Tyler Durden's picture

The rational and efficient market mythbusters at Nanex have made another major discovery, having gone through the SEC's proposed plan to deal with extraordinary market conditions, better known as Limit Up/Limit Down Plan to Address Extraordinary Market Volatility, brilliantly abbreviated to LULD, and find that even if said been had been in place before May 6, 2010 it would have done absolutely nothing to prevent the 1000 swing in the Dow. Cutting through the chase, and partially explaining once again why there has been over $150 billion in domestic equity mutual fund outflows since the beginning of 2010, is that "The SEC has proposed many band-aid fixes since May 6, 2010 in an effort to make investors feel confident again about the equity market. The sad truth though is that none of their proposals so far will prevent another flash crash. Worse, some proposals, such as this one, will likely make things even worse." Bottom line: investors have no confidence that this market is at all better, and in fact it is very likely that the market could crash just as violently as May 6, at any given moment, as the SEC has done nothing to fix the underlying problems, but merely redirect and pretend that it is on top of things, while taking a nip and a tuck at some of the easily remedied symptoms. And as long as this mutually acceptable delusion continues, stocks are in constant danger of another epic wipe out courtesy of the SEC, which will eliminate what little confidence there is, even among those who trade purely with "Other People's Money." We thank Nanex for their ongoing pursuit of the truth behind the SEC's endless lies. Because if the regulator itself is corrupt and incompetent, then there really is no hope for market efficiency and fairness.

From by Nanex

New SEC Limit Up/Down Proposal Would Not Have Prevented the Flash Crash

We have read the SEC Limit Up/Limit Down Plan to Address Extraordinary Market Volatility (LULD, or the plan). We have also read through the comments submitted to the SEC by knowledgeable professionals in the industry, and we agree with nearly all of the concerns presented. There are a few worrisome problems that are not presently addressed in the commentary nor the plan itself. These troubling concerns were not immediately apparent; they only presented themselves after we undertook the effort to simulate what would have happened on May 6th, 2010 if the plan was in effect. That was the day of the flash crash, which is the whole reason this plan is being proposed. We'll briefly mention the most troubling concerns we found, so that we can keep this paper short.

No software developer with any sense was part of this process.

The first thing we discovered when coding the LULD rules, is that no software developer with any sense was part of this process. This we are sure of. Let us explain. There is a need to have reliable prices for calculating trading bands, because triggering false trading halts could be far worse than not having a limit at all. The plan tries to achieve stable prices by averaging all trades over the last 5 minutes. This method is extremely processor and memory intensive, because for each symbol, the software needs to buffer anywhere from 1 to 100,000 or more trades. Worse, stocks that hardly trade will have just a few trades (or none) in the last 5 minutes: so the very stocks that need a price stabilization method will get no benefit from this approach! The best way to ensure stable prices with minimal processor and memory overhead is to use an exponential moving average.

The second glaring problem is one of robustness, or rather a lack of robustness. Readers should know that trades and quotes are processed by separate systems, which are often out of sync by hundreds of milliseconds during normal trading, and many times that amount during active (not crazy) trading. However, the plan assumes, at its very core, that these two very different systems will magically always be in sync. And this is a plan designed to alleviate problems during times of severe market stress! Many incompetent software engineers have been fired on the spot for less. The solution here, is to pick one of the two systems (hint: use quotes) and avoid any dependencies.

The third, and perhaps most important problem, is that the plan persists an ambiguity of the definition of the NBBO in Reg NMS and how the NBBO is (not) used to route orders to protected quotations. The ambiguity arises because the language of Reg NMS assumes that information is transmitted instantly: at the time when Reg NMS was written, the speed of light was so fast it was, practically speaking, instant. This, coupled with intense competition to be the fastest at all costs, led to exchanges using their own internal calculation of the best bid or offer as a substitute for the real NBBO for order routing and trade through protection.

We think it would be prudent for the SEC to clearly document how an investor's order is routed through the system at each step in the process, in detail, with particular attention paid to the step when the NBBO is taken into account.

So it would seem to us that exchanges either have to abandon and rewrite the order routing layer to adopt the plan as it is written (not very likely), or they intend to apply the definition of the NBBO to mean the one that each exchange calculates internally and ignore the NBBO as defined in Reg NMS. In light of this continued ambiguity, we think it would be prudent for the SEC to clearly document how an investor's order is routed through the system at each step in the process, in detail, with particular attention paid to the step when the NBBO is taken into account.

Finally, the delays in quote and trade dissemination from the SIPs are common and significant enough that it will lead to new forms of latency arbitrage when stocks approach their limit bands. Latency arbitrage always favors the trader with the fastest speed, to the detriment of everyone else.

The SEC has proposed many band-aid fixes since May 6, 2010 in an effort to make investors feel confident again about the equity market. The sad truth though is that none of their proposals so far will prevent another flash crash. Worse, some proposals, such as this one, will likely make things even worse.

The Simulation

Since it is impossible to simulate what would have happened after a trading band is hit, we decided to stop the calculations for a stock once it hits a band. We show the time and price where a stock hits a band, and where the prices actually traded, since there was no pause on that day. It is up to you, the reader, to imagine the impact from halting trading in the stock at the price and time indicated.

On the day of the flash crash, 350 symbols would have hit the price bands as defined by the plan. Of these, only 3 symbols hit their price bands before trade and quote systems became overloaded and severely stressed. 304 symbols hit bands after the emini began its 5 second halt.

One saving grace of the flash crash was that it happened so fast, a lot of people didn't have time to react.

It is very troubling to see so many large capitalization, widely-held stocks triggering a pause or halt near their very lows. We wonder how this would have impacted index calculations, futures prices, options, ETFs and other equivalent assets. We wonder how much these halts would have prolonged the event. One saving grace of the flash crash was that it happened so fast, a lot of people didn't have time to react. Many people weren't even aware of the crash, or its severity, until after it was over.

SPY Prices showing when the Limit Up/Down price bands hit. A red dot indicates when a stock hit its band.

We present below, the charts of a few large capitalization, widely-held stocks that hit their simulated trading bands using data from May 6, 2010. The circle shows the time and price where the stock would have triggered a pause or halt if the plan as it is written were in place on that day. All of these trigger points occur when liquidity was near its lowest point, so it was highly likely that trading halts of 5 minutes or more would have frozen all these stocks at the point indicated by the circle; allowing far more investors to experience the anxiety of the flash crash in real time.

If you are interested in viewing all 350 chart images, please send us an email.

DIS - Walt Disney Company

IBM - International Business Machines

AVP - Avon Products

DOW - Dow Chemical Company

TWX - Time Warner, Inc.

MRK - Merck & Company, Inc

ABT - Abbott Laboratories

ORCL - Oracle Corp

CSCO - Cisco Systems, Inc.

VXX - iPath S&P 500 VIX Short Term Fund

GE - General Electric Company

MU - Micron Technologyy

HPQ - Hewlett-Packard Company

IYR - iShares Dow Jones U.S. Real Estate

JDSU - JDS Uniphase Corporation



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Stuck on Zero's picture

Voltatility problems?  Add a 0.1% Tobin tax to every stock transaction and everything will smooth out beautifully. 

Don Quixotic's picture

Brilliant! No average investor would even feel it and it flushes just about every HFT out of the market. That's how you know it'll never even be proposed as a solution within 100 miles of New York, Washington, or Chicago.

mason5566's picture

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Sudden Debt's picture

NO extra TAX! Do you work for the government? :)


Goodbye HFT.


Rodent Freikorps's picture

Wow. Question the SEC and the site crashes.

I question the timing.

Molon Labe, SEC thugs!!!!!!

cswjr's picture

We need to start a campaign to replace the SEC with Nanex.  I love those guys' work.

Debtless's picture

The cure for flash crashes is more flash crashes. 

Then they can simply go play with themselves.

gwar5's picture



QE3 is the hook that will bring money and investors back.

malikai's picture

The rational and efficient market mythbusters at Nanex have made another major discovery, having gone through the SEC's proposed plan to deal with extraordinary market conditions, better known as Limit Up/Limit Down Plan to Address Extraordinary Market Volatility, brilliantly abbreviated to LULD

I luled. They will never stop the lulz.

bbq on whitehouse lawn's picture

Wow Tyler thats a lot of in-your-face data. But i welcome it non-the lesss. Many i know will net even read it. Just wave their hand like swating a fly or brushing fowl air from their nose.

I take your data with a serious if inebriated mind. Yes thats not to say i cant add or do some calc 2 math its just that it will be slow and  labored with lots of errors in it and some google searches :)

Still its better the you would get in a muciprical building.

More the power, best of luck and may the force be with you.


karzai_luver's picture

When do we see the cage trials of our slimeballs.


"Hosni" them all. start with every living U.S. prez and all cabinet members as well as House and Senate leaders from the last 20 years and any Fed leader.


When will the U.S. attempt to bring justice.


If  Egypt can bring charges against their criminals , someday the U.S. may catch up????????????

OldPhart's picture

Fuck a trial, line them up and decorate every lightpole in DC.

Joebloinvestor's picture

The SEC thinks that it's "do over" or null trade ability is a "fix".

The programs are just "learning" the system and at some point will be able to manipulate or take advantage (which they can do now) or create advantage and the SEC will be powerless to stop it.

The only way to stop HFT is to go back to paper slips and brokers.

gratefultraveller's picture

Not sure why your comment made me think of HAL rather than Skynet

GoinFawr's picture

'Tobin' tax off the table? Ahh, that'll just benefit those with their hands in the deeeeeepest pockets... How about imposing a min. standing time for orders? I know, that would still be easily gamed by those closest to the hubs...also, how would the illusion of 'liquidity' be maintained?

Paper slips and brokers it is. If you're really 'investing' you should be demanding those slips of paper anyway; they're as close to 'physical whatever ownership' as you're gonna get, and such action should force the shorts to earn it.

Bah, it's all rigged, and if your moniker is any indicator: you aren't the house.

InconvenientCounterParty's picture

How does NANEX get paid? Their work is world class and worthy of support.

Rodent Freikorps's picture


Breaking news: Multi-agency armed raid hits Rawesome Foods, Healthy Family Farms for selling raw milk and cheese

We have achieved the Liberal Police State.

Irwin Fletcher's picture


I'm glad they took down Healthy Family Farms. That place is scamming people in the bright light of day just like the SEC. People complained. They got investigated. At least some government agency will enforce the law. I bet the good folks at Nanex are jealous.


Manthong's picture

You know you’re screwed when a server in a nearby cage has an advantage over a server across the street and you consider that electrons all travel at the speed of light.

Rainman's picture

A+ for overwhelming evidence

bbq on whitehouse lawn's picture

Ive just tried a beer that tast like ass. Like corn feed ass.  A mutation of ass that is yet to be discoved by science.

Ist so bad its a flavor of its self. Like a new ass flavor beer for those who dont have the money for mid-west hooker ass.  Such a new flavor of ass that i stand in awe of it. Like a corn field farted. So bad its should be a drinking game.

Like a fart you have to go bake to smell just to discribe. Again and  again. Reched horrific and flavorful in its own toxic way.

Im going to give you the name because you need to tast the horror of a beer to understand and discribe its flavor. I dont have the langurage to put to words this incarnation of  flavor.

Its GET this:

Im not making this up,

its: Fat Tire. from Belgium, CO

if anyone knows the CEO he should be put to death by drinking a keg of this swill.

Wow i just discoved this horror of a brew and would have never had known such a error could have been brewed by, water, hops, yeast. Its so bad it need to be a legon in its own time.

I just found a reason to return to NY the beer. Even if i froze to death at least i wouldnt have known the toxic swill that is the brew.

If ever i meet this CEO or CFO i will punch him in the face for createing such a putrid toxin.

Enjoy its perfict for waterbarding.

moonstears's picture

Now tell us what you REALLY think it's like... lol

Abitdodgie's picture

COMMISSIONER JILL E. SOMMERS   it is now coming to light that you are on the payroll of J P Morgan the very body that you are supposed to be overseeing and regulating , After world war 2 the Nuremberg trials were held a lot of the Officers used the excuse that "they were just following orders " that however did not stand as a good enough reason for what they did . My question to you is , whats your excuse?  202-418-5000 That is her number please everyone call her leave a message , blow some steam off you will feel better.

zorba THE GREEK's picture

I need more charts, bring me more charts. I need fresh charts for my experiments.

Atomizer's picture

SEC is employed by the Ponzi teat. They will do anything to validate a governing taxpayer funded entity. They always turn a blind eye on the masters & chase small pea criminals.

Kudlow is spinning a story on who is passing bad gas... $91 is good for the economy. So many people are detached from reality. Carry on ministry of propaganda. LOL


buzzsaw99's picture

It doesn't matter, JPM sets the price of everything.

GoinFawr's picture

MAD "Mututally Accepted Delusion"


espirit's picture

Caught that one also, "mutually acceptable delusion".

Thanks Tyler for the new twist on a tired acronym.

GoinFawr's picture

Argh. My typo is now indelible!

Garbage Can Ray's picture

Tyler, are you going to cover the DNDN annihilation? Looks like SAC just lost a boatload!

Henry Krinkle's picture

The SEC is comprised of a bunch of lawyers. So many lawyers that it's considered one of the largest firms in the country, so to speak.

So now you know why they don't have any sort of a clue about the market.

Atomizer's picture


General Electric should be re-tagged as Government Enterprise.

Anyone notice Pandora taking a full circle back? Gee who told us? Thats right.. the ZH site owner. I recall his 6 ways till sunday prediction.

Palladin's picture

Interesting reading if you follow DNDN. It's from a couple of years ago, and full of Wall Street mumbo jumbo. Pretty much all of it was wrong.



Little John's picture

I'm about half through reading Reminisces of a Stock Operator.  It's hard to believe Mr. Livermore has been reduced to 1s & 0s.

Why doesn't someboby do that for the Bernanke.  Hooked up to a dual core processor he could get throught the next couple of

dozen  QE s in about 18 months.

Jovil's picture

George Carlin's words ring truer today, "They don't give a fu@k about you."

Ted K's picture

Once again Tyler Durden is willing to take swipes at the S.E.C. , but Tyler conveniently stays totally silent on group controlling and directing the Kabuki drama---FINRA

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