Could the tide finally be turning on the high frequency churners-cum-manipulators? In an exclusive report, Reuters informs that "a big high-frequency trading firm faces possible civil charges by regulators after its computer ran amok and sparked a frenzied $1 surge in oil prices in February, according to documents obtained by Reuters and sources familiar with the continuing investigation." The firm in question is Infinium Capital Management, which confirmed that it is the company at the center of a six-month probe by CME Group Inc into why its brand new trading program malfunctioned and racked up a million-dollar loss in about a second, just before markets closed on February 3. And yes, once all is said and done, it will be precisely this kind of algos gone wild that are found to have caused the much more devastating move on May 6, as we have been claiming all alone, and which the HFT lobby has been fighting tooth and nail to bury under the rug.
The glitch explains for the first time the lightning-quick oil-trading surge of that day -- and it may have been a catalyst for the abrupt and largely unexplained $5 slide amid record volumes the following two days.
The firm's buying frenzy also reveals how faulty computer codes, known as algorithms, can spark sharp volatility and send electronic markets spinning all in the blink of an eye.
Futures exchange operator CME Group is looking into the incident, which occurred at the New York Mercantile Exchange and highlights some of the same electronic-trading concerns raised by May's "flash crash" in the U.S. stock market.
The specifics on the actual trade:
Infinium, a household name in Chicago's burgeoning trading community, relies on computer horsepower and quantitative models to earn razor-thin profits from short-term trading. It uses its own money to make markets and capitalize on tiny imbalances, a common high-frequency strategy.
The documents, dated March, reveal that Infinium used an algorithm that was less than a day old to execute a "lead/lag" strategy between an exchange-traded fund called United States Oil Fund, which tracks oil prices, and the U.S. crude benchmark future, West Texas Intermediate.
The algorithm was turned on at 2:26:28 p.m. (Eastern) on February 3, less than four minutes before NYMEX closed floor trading and settled oil prices. It immediately started uncontrollably buying oil futures, according to the documents, which include letters from Infinium's lawyer to the regulation unit of CME Group, and cite notes from a company developer.
Infinium placed 2,000 to 3,000 orders per second before its flooded order router "choked" and was "dead in the water" a few seconds later, the developer's notes said. The algorithm was shut down five seconds after it was turned on.
By then, the documents show, the firm had sent 4,612 "buy limit" orders into the market. It quickly offset the position, mostly with large "block" trades in the next few minutes, leaving it with a $1.03-million loss.
Infinium's burst of buying and selling represented about 4 percent of average daily trading volume in the contract, and caused a brief 1.3 percent jump in oil prices, from $76.60 to $77.60, before settling at $76.98, Reuters data show. Trading volume spiked nearly eight-fold in less than a minute -- and the reverberations turned some heads.
The next day, February 4, commodities traders struggled to explain a 5 percent plunge in oil prices, the biggest one-day drop in half a year. On February 5, crude fell further, to $71 a barrel, and volume touched a then-record high.
Some people fingered London hedge fund BlueGold Capital Management for selling long positions -- a charge it promptly denied -- while others pointed to the unusual end-of-day market action the day before.
Stephen Schork, who runs market analysis company The Schork Group, told Reuters at the time the volume jump "reeks of someone making a mistake or (who) was in trouble and is in more trouble today." CME Group said February 4 it was looking into the matter.
Infinium's Whitman told Reuters the firm immediately alerted the exchange to the problem. "The parties associated with this error are no longer with the firm," he said, adding the firm since adjusted its software "to ensure this error would not be repeated."
The observations that the market is now on the verge of breaking every single day have gotten others to appreciate the market structure scourge that is the HFT community:
"The ironic and sad part of the broken algo story is that the traders identifying patterns in the market unfortunately don't use their expertise to identify abnormal patterns in their own trading," said Larry Harris, a market structure expert and professor of finance and business economics at University of Southern California's Marshall School of Business.
"The failure to have simple counters to identify potential problems with the algo, such as having thousands of buy orders in a row, is extremely troubling."
However, as we have been pointing out for a long time, at this rate of attrition, it won't matter soon, as the HFTs will soon be left to trade only with themselves, in this wreck of a marketplace.
Also, as we recently pointed out, this is not a simple case of "banging the close" as platinum and palladium trader Chris Pia was recently found to have done, not only in commodities but in FX as well:
Commissioner Bart Chilton told Reuters late last month he is "itching" to use the CFTC's new authorities, under the Dodd-Frank Act, to fight trading practices that disrupt oil prices.
Under the new bill, the CFTC needs only to show that a trader acted in a manner that had the potential to disrupt markets to prove a manipulation case.
The documents did not suggest that Infinium was suspected of what is known as "banging the close" -- an illegal practice in which traders try to move the futures market by flooding it with orders just before it closes.
Infinium said its primary failure on February 3 was allowing thousands of orders per side per contract, instead of limiting it to the planned one, according to the documents citing the developer's notes. The notes also indicate Infinium's computer may not have properly recorded that it was sending orders.
Of course, at the end of the day, there's talk of change, and actual change. And while the former is increasing, the latter is sadly missing, and is not lost on the millions of investors who have now given up entirely on stocks. While we are confident that this will be confirmed by a 16th consecutive outflow in funds when ICI releases it weekly flow data tomorrow, it is about time the idiots at the SEC finally wake up and realize that they have a broken, corrupt and manipulated market, where the Ph.D. geniuses, with their flawed algos, have destroyed any and all remaining integrity and faith people may have once had in capital markets. Alas, it also means that nothing will be done until the next far more substantial market crash destroys everything that the US capital markets have fought to represent after decades of technological progress and hard work.