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SkyNet Wars: Presenting The Rogue Algo Responsible For FaceBook's Downfall

Tyler Durden's picture


Back on March 27, following the epic disappointment that was the BATS IPO, we presented a detailed forensic analysis courtesy of Nanex, which demonstrated step by step how a Nasdaq-borne algo may have been the culprit shattering BATS' hopes of ever going public. Fast forward two months later to the most anticipated IPO in recent history, in which FaceBook's even more epic, if not quite as stark, implosion has set back the general public's faith in capital markets decades back. The irony, of course, is that FB didn't do anything that many weren't warning about: it simply plunged which would make perfect sense in a normal world. This in turn was the spark that provoked the public ire - had FB simply doubled since IPO day, nobody would care about what really happened on May 18. Alas, it didn't. And now the lawsuits come. The problem is we don't transact in a normal world, but one dominated by central banks and algorithms - which is why the most pressing question for those who grasp the real new normal is how come in a market as controlled and manipulated as the central bank-dominated venue we have now, was FB stock allowed to plunge? For what may be the actual definitive answer, as opposed to now trite philosophical ruminations on valuation, ethics, underwriter and shareholder greed, we once again go to Nanex, which has caught the perpetrator red handed once again.

Somehow we doubt many will be surprised to learn that the reason FB failed to take off following its break of trading in the low $40s, has everything to do with, you guessed it, another HFT algo, which in those first instants of trading, did something that threw the entire market off: it kept crossing the market, with the Bid surging above the Offer, in the process shocking the entire price-supporting HFT array, designed to build upon upward momentum, resulting in the only other natural outcome: a steep, rapid selloff.

As Nanex' Eric Hunsader tells us: "Turns out just before Nasdaq's quote crossed and became non-firm, one copy of the same quote (crossed) was marked regular, and I think that caused other algos to react and immediately sell off the stock. When that crossed quote from nasdaq appears, bid prices from other exchanges suddenly evaporate and that causes the NBBO spread to explode from 1 cent to 70+cents in 1/10th of a second! Nasdaq's quote started doing this when the stock approached 42.99 -- that effectively prevented the stock from going higher (a few spurious trades right at the open came from BATS for 44 ~ 45 etc, before Nq's quote was in play). So these stupid Algos effectively short circuited the stock for Facebooks IPO! Unreal."

Sadly, for millions of people who were gullible enough to buy into the propaganda, all too real.

Below is Nanex with its traditionally lauradtory forensic analysis that leaves nothing to the imagination:

Did a Stuck Quote Prevent a Facebook Opening Day Pop?


On 18-May-2012, within seconds of the opening in Facebook, we noticed an exceptional occurrence: Nasdaq quotes had higher bid prices than ask prices. This is called a cross market and occurs frequently between two different exchanges, but practically never on the same exchange (the buyer just needs to match up with the seller, which is fundamentally what an exchange does).


When Nasdaq's ask price dropped below its bid price, the quote was marked non-firm -- indicating something is wrong with it, and for software to exclude it from any best bid/offer calculations. However, in several of the earlier occurrences the first non-firm crossed quote was immediately preceded by a regular or firm crossed quote!


During the immediate period of time when the Nasdaq quote went from normal to non-firm, you can see an immediate evaporation in quotes from other exchanges, often accompanied by a flurry of trades. We first noticed this behavior while making a a video we made of quotes during the opening period in Facebook trading.


The reaction to the crossed quote often resulted in the spread to widen from 1 cents to 70 cents or more in 1/10th of a second! It is important to realize that algorithms (algos) which are based on speed use existing prices (orders) from other exchanges as their primary (if not sole) input. So it is quite conceivable, if not highly likely that these unusual, and rare inverted quotes coming from Nasdaq influenced algorithms running on other exchanges.


It is now more than a curiosity that the market was unable to penetrate Nasdaq's crossed $42.99 bid which appeared within 30 second of the open and remained stuck until 13:50. Could this have prevented the often expected pop (increase) in an IPO's stock price for FaceBook?


This also brings another example of the dangers of placing a blind, mindless emphasis on speed above everything else. Algos reacting to prices created by other algos reacting to prices created by still other algos. Somewhere along the way, it has to start with a price based on economic reality. But the algos at the bottom of the intelligence chain can't waste precious milliseconds for that. They are built to simply react faster than the other guys algos. Why? Because the other guy figured out how to go faster! We don't need this in our markets. We need more intelligence. The economic and psychological costs stemming from Facebook not getting the traditional opening day pop are impossible to measure. That it may have been caused by algos reacting to a stuck quote from one exchange is not, sadly, surprising anymore.

Chart 1. NBBO (National Best Bid or Offer) Spread along with Nasdaq quote.
NBBO Spread colored black: bid < ask (normal), yellow: bid = ask (locked), or red: bid > ask (crossed).


Chart 2. Nasdaq's Stuck Bid appears to set a defined ceiling in Facebooks stock price during the first minute of trading.


Chart 3. Close-up showing NBBO along with ARCA quotes (red) and Nasdaq quotes (black = normal, green if non-firm).


Chart 4. Same period of time as chart 3, but showing NBBO and trades from Arca (red circles) and Nasdaq (black circles) for reference.


Chart 5. Note how the spread tightens in all exchanges when Nasdaq Quote goes from Non-firm to normal.


Chart 6. Just before Nq Quote changes to non-firm, a crossed quote from Nasdaq appears and is marked normal.


Chart 7. The next charts are more examples of other exchange prices reacting to Nasdaq's quote changing to non-firm


Chart 8.


Chart 9.


Chart 10.


Chart 11.


Chart 12.


Or, another way of presenting what happened, is the following video.

Hunsader's explanation of what you are seeing:

Watch Nasdaq's quote (first box to appear - 10 o'clock). Note the crazy bid prices are higher than the equally crazy ask prices. After trading opens, Nasdaq's quote will start turning red when it's no longer eligible to set the NBBO. Watch how quotes on the other exchanges react wildly causing the price to evaporate.


Each box represents one exchange. The SIP (UQDF in this case) is the box at 6 o'clock. It shows the National Best Bid/Offer. The shapes represent quote changes which are the result of a change to the top of the book at each exchange. The time at the top of the screen is the time of the last quote or trade update in Eastern Time HH:MM:SS:mmm (mmm = millisecond). We accelerate time until the open, and then we slow time down so you can see what goes on at the millisecond level. A millisecond (ms) is 1/1000th of a second. The blink of an eye is about 200 ms.


Note how every exchange must process every quote from the others -- for proper trade through price protection. This complex web of technology must run flawlessly every millisecond of the trading day, or arbitrage (HFT profit) opportunities will appear.

Dear class action suit attorneys - you are indeed quote (sic) welcome.



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Sat, 05/26/2012 - 16:25 | 2465918 junkyardjack
junkyardjack's picture

So this means that Facebook is set for a rally? Bullish!

Sat, 05/26/2012 - 16:55 | 2465952 Dingleberry
Dingleberry's picture

I'm still waiting for the truth about the "flash crash"....I guess the Facebook disaster was yet another  "fat finger" slipping and  turning off the trading computers or something. Once a fat finger accidentally turns off the porn the SEC is watching, maybe the criminals will get crushed.

Sat, 05/26/2012 - 17:19 | 2466014 Fix It Again Timmy
Fix It Again Timmy's picture

It's ALL just financial MIASMA - there is no substance, except in you know what..............

Sat, 05/26/2012 - 17:26 | 2466032 adr
adr's picture

Wait, so Facebook should have gone to $150+ a share within the first few minutes of trading valuing the company at $500 billion, and it was the fault of a rogue algo that the shares dropped?

It had nothing to do with the fact that Facebook is the most overhyped and overvalued corporation in history?

I think a collective fuck you is in order.

If that is the case then all exchanges should be closed permantly by executive order and all public corporations should be forced private. The IPO market should never be allowed to return.

Then we'll see which corporations can actually stay in business by the virtue of actual capitalism.

End the stock market the world survives. Keep the stock market and the world burns. It really is that simple.

Sat, 05/26/2012 - 18:21 | 2466123 Solarman
Solarman's picture

I think it is a fun discussion of whose fault this was, Nasdaq, MS, the Algos, FB, etc.  But that misses the point.  FB was brought public at such a high valuation that those who did just 5 minutes of homework would conclude that this company is 7x of what it should be valued, and every man and machine was selling as fast as it could.

January 13 10 strike puts will make a nice lotto ticket.


Sat, 05/26/2012 - 18:31 | 2466138 Downtoolong
Downtoolong's picture

Q: What’s dumber (and scarier) than a computer that thinks it can purchase a $40.00 stock for $0.01?

A: A computer that manages to purchase a $40.00 stock for $0.01, then turns around a microsecond later and sells it for $0.02

Don’t the all in the world of HFT?

Sat, 05/26/2012 - 18:30 | 2466139 Atomizer
Atomizer's picture



In America, we have a twofold problem. We have Central Planners and Central Bankers sharing the same plate of Hope and Change defecation meal.  

Take a good long look at this image. Click me 

Now, I’ll move you along to the Bank of International Settlements. Enjoy reading the fucked up corruption within the body of powers mentioned above.

Sat, 05/26/2012 - 18:59 | 2466187 Yen Cross
Yen Cross's picture

Everyone talks " Valuations" ,after 5 Trillion Excluding ECB/BoJ contributions. Valuations should be 5:1 and this Funny money all went over seas to now over heated (Emerging)markets , that sell usd every Asian session to prop their own currencies!

Sat, 05/26/2012 - 19:03 | 2466192 midgetrannyporn
midgetrannyporn's picture

calpers top ticked it no doubt.

Sat, 05/26/2012 - 19:43 | 2466250 kedi
kedi's picture

The rogue algorithm? Not any more. Business as usual I'd say. It's just that those outside of the business have yet to catch on.

Sat, 05/26/2012 - 21:02 | 2466380 Bolweevil
Bolweevil's picture

Who's using HFT? Gotta be a fairly exclusive group considering the brain power, cost, co-location needs, etc. Name names. This is above "regulators" pay grade, this is a job for ZH.

Sun, 05/27/2012 - 01:36 | 2466733 Brian219
Brian219's picture

Its Us against the Machines.................


Sun, 05/27/2012 - 02:44 | 2466766 BlackholeDivestment
BlackholeDivestment's picture

...and as a result of awareness, the ''winners'' buy into the short term gain notion of ''trading the market you are given'', calling it victory the black hole established by doing so.



Sun, 05/27/2012 - 05:25 | 2466836 SunBlaster
SunBlaster's picture

When HFT causes you headache, blame it on Sergey Aleynikov!

Sun, 05/27/2012 - 06:52 | 2466870 Machination
Machination's picture

This is an interesting analysis of the first day of trading.  

But, the blame on FB IPO and the stock price TODAY cannot be blamed on HFT alone.  I'm sorry, but the price today is based on the fundamentals, and if enough people thought FB was undervalued at today's price of 31.xx, then you can be damn sure the stock price would reflect that.  No matter what happenned in those first milliseconds, seconds, day don't mean squat over a period of a week.  

The fact remains FB came out of the gate overvalued and with significant risk attached.  HFT is not what drove the stock DOWN all week last week, its the lack of a fundamental plan at FB to even support a price in the 30's.  The stock will continue to go down.  

My favorite is FB releasing thier new photo app for the phone, the same thing they paid 1 billion for (the same in genre, not the same application) pre IPO days.  You don't think the big money sees the company is being run like a circus act for the markets?  Everybody sees it, and unless things change and a real strategy is laid out, the demand for FB stock will continue to drop. 

HFT did not screw the retail investors in FB, the retail investors screwed themselves buying into the MSM hype and circus act.  If you are looking to point a finger at FB stock price today, its not HFT industry that you should be pointing at.   

Sun, 05/27/2012 - 21:51 | 2468225 percyklein
percyklein's picture

I think that algos and HFT are proving ruinous to fair and orderly trading and to public confidence in our markets. Not a new idea.  Agreed, it is at least arguable whether either of these (fair and orderly and public confidence) is important, much less necessary, to the proper functioning of the markets. Say it turns out that they are. Then what? What can be done? I'm just asking, but, what if there was a rule that no buy or sell order, no bid or offer, could be entered in the markets otherwise than as intiated and entered through a live, human agent and that entry of an order/ bid or offer by machine generation otherwise than by or through a human agent was a crime? Forget for a moment how hard it would be to compel that globally.  I think we could do it here in our markets, as a legal matter, if we were serious, until and unless everyone who doesn't agree, by staying here to act in accordance with this principle, left the U.S.  -- I mean not only the companies moving, but those who work for and control them, too, having to give up their citizenship and stuff like that. (Would they do that? Say they wouldn't.) Would this fix it? Will anything else fix it? 

Mon, 05/28/2012 - 06:41 | 2468709 egoist
egoist's picture

One could become pessimistic about the state of affairs with the unending piles of auto-pilot activities. NPR had something on a week or 2 back about robo-likes that you can buy to amp up your FB / biz. Look up Mark Steyn's column for this week.

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