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Flash Crash – Nobody told me there’d be days like these.

Strange days indeed due to flash crash.

Stock Crash
Image by illustir via Flickr

We are most definitely in a bearish trend. On May 6 we were all shocked by “Flash Crash.” In case you missed it (tongue in cheek) at about 2:30 pm ET the entire market began a precipitous drop. Over the next thirty minutes the market dropped almost 10% and quickly rebounded, but remained lower than the highs of the day. It was not just a “bad print.” There was sustained and intentional trading… and a lot of it. We have continued to drive the market lower since that day. I suspect that we will retest those May 6 “flash crash” lows.

What caused that “flash crash?” Nobody knows for sure. There are lots of theories: a fat fingered trader, algorithmic trading, dark pools, price discovery mechanisms, stub quotes, mismatched trading rules across exchanges, stop-loss orders, etc..

You can find the joint preliminary report by the SEC and CFTC here: http://www.sec.gov/sec-cftc-prelimreport.pdf It’s 151 pages long. But, it is worth reading the executive summary.

Today, Mary Shapiro, the SEC’s Chairman, was on the hill testifying to Congress today on their findings, so far. I have to say that it was a relief to hear her implore the Congress to be patient. You cannot solve a problem unless you know the cause. A hastily written law is likely to only cause more problems that we cannot foresee.

The market is a complex ecosystem. There are multiple and subtle interdependencies. Small perturbations can have dramatic and unanticipated consequences. Australia’s problem with the Cane Toad and North America’s problem with the Gypsy Moth are just a couple of examples that come to mind. I’d rather see a “good” solution than a “fast” one.

In my opinion, there will be no one “smoking gun.” The situation was a result of everything combined. When the right combination of situations occurred simultaneously – it was the Perfect Storm.

I do believe that rules and regulations can be written to mitigate those sorts of events in the future. Let’s hope that Congress is patient and thorough when developing this regulation which is certain to come.

So, what could you have done about it?

For one thing, you can stop using stop-losses. Here’s a pretty good article that describes the concept: https://www.optionsanimal.com/stop-using-stops

The other thing was to watch your technicals. There were some very strong indications from the technical indicators.

That will be the subject of my next blog post.

Most peculiar Mama.

Eric Hale
OptionsANIMAL Instructor

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