Wall Street’s Big Banks Are Waging a Technological Arms Race
bloomberg.com
bloomberg.com
Anyone whose built a trading system lives with this type of fear on a daily basis.
Write your risk system first and your algo second.
> The cause? A coder had mistakenly programmed a router to send placeholder bids as live orders. If not for the good graces of the options exchanges, the bank would have lost $500 million, according to the U.S. Securities and Exchange Commission. Cancellations and price adjustments reduced that to $38 million
And this is at the top of my things that are unfair in the markets. Knight Capital wasn't bailed out by the exchanges for the same thing and it bankrupted them. Goldman with its alumni every where.... was.
They didn't. They cancelled a lot of the trades before they were hit and a whole bunch were filtered out at the exchange end because they were way off market. They lost $38mm from what wasn't caught by either.
In other words, they fucked up and lost money. And it's generally agreed that safeguards needed to be better. That was a big part of Mifid II.
I'd disagree with this statement.
it's true that each exchange does have its own rules and that they do set some guidelines but as far as I know they all have rule that state that they carry final veto power over what trade do and don't get broken.
For instance from Nasdaq
> Nasdaq is providing general guidance on when transactions may be deemed erroneous under Rule 11890. This guidance is not a mandate of the rule but is information on how Nasdaq generally applies the terms of the rule (at Nasdaq2019s discretion) to determine whether an execution is clearly erroneous.
https://dealbook.nytimes.com/2012/08/02/knight-capital-says-...
Knight had a terrible software delivery process and a lot of deadline-oriented pressure on techies.
Makes total sense. It's almost as if everyone at a company should be on the same team :)
how did it interface to the poker-playing site? was there an api, or were you masquerading as the client?
Should capital markets work? Should people be allowed to dynamically allocate capital to the most attractive companies?
The argument tends to be that making a decision about buying and selling in microseconds is not providing value, but generally everyone agrees that it should be possible at some level (by minute? by hour? by day?). There are a bunch of arguments here but broadly speaking I don't see how they change the underlying game. Make good decisions on where to allocate capital, make money as the market price caches up with your prediction.
In particular, since one of the objects is to grind long enough that the rules of the game don't apply to you, see 'Goldman Sachs', I think the original poster's criticism is valid.
There is no referee. The only goal is to give game winners more money, and if they screw up, give them their money back and then give them more money. It justifies things like investments in index funds (or identifying those who are already competing outside the rules and rewarding them by investing more money in them since they cannot fail), but it's gone well beyond the rational functioning of a system, much less a self-regulating system with useful purposes.
It's Calvinball. Go ahead and enjoy it, but it's not right.
Knight couldn’t cancel their bad trades because most weren’t clearly erroneous, based on exchange rules. If the market was bid 20.01 offered at 20.02, Knight’s test program was buying 20.02 and selling 20.01 over and over. Those prices weren’t far from the prevailing market, they just executed stupidly and very quickly.
Goldman was selling $10 options for $0.01, so they met the exchange rules for breaking erroneous trades since they were so far from fair value.
If I were an evil Machiavellian exchange, I’d much rather stick Goldman with a nasty error than Knight. At the end of the day, exchanges need transaction volume to make a profit. Goldman is an 800lb Gorilla with huge capital reserves and diverse business lines, so they’d still come back to trade after licking their wounds. Knight almost went bankrupt.
It's interesting to read the full SEC report because it's a little more complicated than that: https://www.sec.gov/litigation/admin/2015/34-75331.pdf
It basically outlines a cascade of failure in controls, bad configuration defaults, and poor SDLC. In particular:
>In addition, the firm’s operation and management of its electronic “circuit breakers” did not effectively block the erroneous orders sent on August 20. These circuit breakers existed to prevent erroneous orders by halting all message traffic to the exchanges once that traffic had exceeded a certain rate. However, on August 20, the firm’s control personnel repeatedly lifted the circuit breakers blocks between 8:44 a.m. and 9:32 a.m., thereby permitting additional erroneous orders to be sent to the exchanges. Before lifting the circuit breaker blocks, the control personnel did not obtain authorization from the responsible technology employees, as required under written firm policies.
>The firm’s policies relating to the manual “lifting” of those circuit breakers were not disseminated to or fully understood by the employees responsible for deciding when the circuit breakers should be lifted, and, prior to August 20, 2013, GSCO personnel had lifted circuit breaker blocks shortly after learning of the block and while still investigating the cause of the circuit breaker trip.
From what I remember, this circuit breaker was notorious for raising so many false positives that control personnel just got used to lifting it without thinking.
Before lifting the circuit breaker blocks, the control personnel did not obtain authorization from the responsible technology employees, as required under written firm policies.
The firm’s policies relating to the manual “lifting” of those circuit breakers were not disseminated...
It sure does seem like there are two sets of rules on Wall Street. I doubt any small trader would be able to reduce their losses 90+% after errantly submitting a bunch of live options orders.
A smaller trader has proportionally less history in the market to use as a evidence something is wrong and the rollback rules should apply.
"The New England Patriots reached ten Super Bowls, therefore the foot out of bounds just before scoring a touchdown was clearly a mistake and out of the ordinary. Therefore, award the Patriots the point, on the grounds that they usually don't make mistakes like that. And don't check the pressure in the football please, there have been ten Super Bowls where that wasn't apparently a problem…"
(I wonder who I'm insulting more, the Pats or Goldman Sachs :D )
The rules in place are exactly backwards. the $50 dollar team is held to a high standard, with no affordances. the $50 billion dollar team is part of the club, so enforcers look the other way when they screw up.
Moreover, the trade being busted, the guy that initially made the money, probably found himself in a very uncomfortable position, since chances are he already covered his risk and hedged the lucky trades. So overall, he lost money just because Goldman was able to force the rules in their favor.
Unfortunately, markets are rigged, just as most things -> the bigger you are, the more influence on the rules and how they are applied you have.
A dude losing $50? Give me a break, his risk is his own. Consider his $50 a small price to pay for learning how things work. And let me remind you, it is a very small price.
Have a thousand people throw in a thousand bucks, each one selects an option play to purchase. Randomly select the purchase. If the play is profitable, keep the money. if it's a loss get the trade reverted because 'a lot of people were involved in the process.' I can make the process as convoluted an necessary to meet your 'no one person you can lay blame on' rule.
I think that's a stupid rule, because it's so easy to hack.
The more money staked on a trade, the higher the threshold should be to roll it back. More people mean more chances to catch the error, not the other way around.
edit
also, the corporation itself is the person that takes the blame. if it can't manage itself, it shouldn't manage your money.
There is no "whether or not who should morally be able to roll back a trade". There is a "hey, we are a customer of your business, we do a lot of business together and I make you a lot of money. We had a once in a blue moon mistake in our billions of lines of code, can you help us out. Other banks are watching and there are plenty of other exchanges to do business with"
Nah.
> Do you have any idea of the scale and complexity and risk of the code they have deployed?
No. But apparently neither do they.
> ... I make you a lot of money. ...
With basically every other risky thing people and corporations encounter, the response is "go buy insurance". Usually they're told that by finance guys.
But hey, good for them.
And the answer to that should be "sorry, if we will roll back your trade, SEC will put us out of business on the fraud charges".
Nothing about this is fraud.
Are stock market players not allowed to divest extremely suddenly, to dump their property at fire sale prices in order to get rid of it at what would be a paper loss, all the while knowing the consequences of holding would be worse?
What if they're dumping equity in a company that will be known to have committed terrorist acts? I'm not sure if I buy 'clearly erroneous'. I also don't buy that the scale of the error was really threatening to Goldman Sachs.
That's exactly how the big corporations hold the whole country hostage. When they do things well they get to keep all the profits and distribute them but when things go bad it's suddenly nobody's fault and the rules have to be changed. Since 2008 I am of the strong opinion that if someone in a corporation makes a big mistake we should let them go under without hesitation. Otherwise they can always blackmail us into being bailed out or working under a different set of rules if they make a mistake.
The only thing really annoying here is that all this wackiness is backstopped by the Federal government. Nobody has any doubt that at the end of the day they will step in to save GS if everything really goes sideways. And that's probably a good thing. But it's very strange that the big banks, which are essentially quasi-state actors at this point, get to keep so much of their profits when the public is bearing so much of the risk.
This is the real difference between China and America: in China the government does everything in its power to make sure its state-owned enterprises succeed and then it takes its pound of flesh. In America the government does everything in its power to make sure its state-owned enterprises succeed and then it gives them a huge tax cut to make the shareholders that much richer. It's a bold move, let's see how it plays out.
The word is naive.
https://www.ft.com/content/c5bca040-37c6-11e8-8b98-2f31af407...
Just like the idea that the aristocracy should be accountable to the same laws as commoners, right?
I think what the poster meant is that deals are just contracts and can be amended if both parties agree. For large banks with longstanding relationships, that is naturally much easier than for a trader that no one knows.
As for the whole stock market being driven faster and faster in precision from seconds to nanoseconds and picoseconds, I've always questioned the need to drive towards a faster processing and if the stock market only updated once every minute, it would sure help in curtailing many ineeded aspects that are creeping into stock trading.
https://bfi.uchicago.edu/research/working-paper/high-frequen...
Personally I think it glosses over lots of the reality of the markets but I’m ready for country to try it to see.
- It doesn't account for the arbitrage types that seem to bother people the most: cross-exchange arb, locality arb, regnms arb or payment for order flow.
- If the discrete time chunks are very short, it doesn't seem to solve latency arb much.
- If the discrete time chunks are very long, it defaults to pro-rata matching. We have pro-rata products already, they are not kind to the little guy.
- Most of the really weird edge cases in exchanges happen due to so called 'exotic' order types, which are really just ways to get the exchange to atomically do something for you. In the discrete auction world I'd imagine you'd have more need for complex instructions not less.
Finally, I think that the problem they are attempting to solve is fairly low priority to solve. We are operating in the lowest cost trading environment of all time. It could hardly be more fair when it comes to order execution. To throw all that out seems dumb, when there are much bigger fish to fry (such as our government bailing out one set of traders but not others).
It also doesn't cover the fact that it changes common exchange revenue streams; the necessary replacements would surely affect the market. Similarly, a lot of the more complex order types would no longer make sense, which would again have market effects.
A lot of this stuff is hard to figure out, though, and trying it in the real world isn't be an obviously bad idea.
Having a ‘speedbump’ was the trendy thing a bit ago in exchanges with several different ones opening with several different versions.
Clearing frequently act like a form of insurance for smaller firms, up to and including asking for killswitches in your trading engines and audits of your risk procedures.
But big firms clear themselves so don't have that. Theoretically the internal risk team is responsible for that but those teams are frequently undergunned.
One of the thing many of us in the industry at the time commented on, was how little was done to bail Knight out. Other than the 'oligarchy' argument that states that the old timers hated them (they did) the argument I subscribed to was, they weren't systematically important. Their entire function in the market could be taken over quickly by someone else with little disruption and largely they were the only ones that lost money on that day (not really but to an approximate).