Origin of Wall Street’s Plunge Continues to Elude Officials

By GRAHAM BOWLEY                    WATCH THE MARKET LIVE ON THURSDAY!

Published: May 7, 2010            

A day after a harrowing plunge in the stock market, federal regulators were still unable on Friday to answer the one question on every investor’s mind: What caused that near panic on Wall Street?

Traders applauding Duncan L. Niederauer, chief of NYSE Euronext, on Friday. He had defended his exchange in an interview.

Through the day and into the evening, officials from the Securities and Exchange Commission and other federal agencies hunted for clues amid a tangle of electronic trading records from the nation’s increasingly high-tech exchanges.

But, maddeningly, the cause or causes of the market’s wild swing remained elusive, leaving what amounts to a $1 trillion question mark hanging over the world’s largest, and most celebrated, stock market.

The initial focus of the investigations appeared to center on the way a growing number of high-speed trading networks interact with one another and with venerable exchanges like the New York Stock Exchange. Most investors are unaware that these competing systems have fractured the traditional marketplace and have displaced exchanges like the Big Board as the dominant force in stock trading.

The silence from Washington cast a pall over Wall Street, where shaken traders returned to their desks Friday morning hoping for quick answers. The markets remained on edge, as the uncertainty over what caused Thursday’s wild swings added to the worries over the running debt crisis in Greece.

In a joint statement issued after the close of trading, the S.E.C. and the Commodity Futures Trading Commission said they were continuing their review. And the two agencies indicated they were looking particularly closely at how different trading rules on different exchanges, which temporarily halted trading on some markets while activity in the same stocks continued on other markets, might have contributed to the problem.

“We are scrutinizing the extent to which disparate trading conventions and rules across various markets may have contributed to the spike in volatility,” the statement said.

A government official who was involved in the investigation said regulators had moved away from a theory that it was a trading mistake — a so-called fat finger episode — and were examining the links between the futures and cash markets for stocks.

In particular, this official said, it appeared that as stock trading was slowed on the New York Exchange when big price moves started, orders moved automatically to other, electronic exchanges that did not have pricing restrictions.

The pressure in the less-liquid markets was amplified by the computer-driven trades, which led still other traders to pull back. Only when traders began to manually respond to the sharp drop did the market seem to turn around, said the official, who spoke on the condition of anonymity because the investigation was not complete.

On Friday evening, another government official directly involved in the investigation said that regulators had not yet been able to completely rule out any of the widely discussed possible causes of the market’s gyrations.

This official, who also spoke on the condition of anonymity, said that regulators had collected statistical and trading data from stock and futures exchanges, and had begun cross-analyzing that with trading reports from brokerage firms and large market participants. Regulators have also gathered anecdotal accounts of what happened from hedge funds and other trading firms.

The two major regulatory agencies — the Securities and Exchange Commission and the Commodity Futures Trading Commission — have generated multiple memos detailing what they have found and offering possible causes for the market events. Among the issues discussed in the memos, the official said, were the disparate rules that different stock exchanges have for dealing with large price movements on the same securities and how prices on futures markets and stock exchanges appeared to lead or follow each other’s movements down and back up.

The lack of a firm answer, more than 24 hours after the market’s plunge Thursday, left some on Wall Street frustrated.

“The problem is you don’t come in and find out what the clear answer is,” said Art Hogan, the New York-based chief market analyst at Jefferies & Company. “We don’t have the clear explanation for how it happened.”

Others, however, said it would take time to pinpoint what happened given the increasingly complex nature of modern stock trading.

Over the last five years, the stock market has split into a plethora of new competing hubs and trading outlets, a legacy of deregulation earlier this decade and fast-paced technological change. On Friday, the rivalry between the two main exchanges erupted into view as each publicly pointed the finger at the other for being a main cause of the collapse on Thursday, which sent shockwaves around the globe.

“This is the sort of situation that has been a worry for a long time, but the markets have changed in a way that has made things more difficult,” said Robert L. D. Colby, former deputy director of trading and markets at the S.E.C. “They’ve become more fragmented, so it’s harder for any one exchange to see the full picture and take action.”

On Friday, President Obama sought to provide reassurance that regulators were working to find the root of the problem.

“The regulatory authorities are evaluating this closely with a concern for protecting investors and preventing this from happening again,” the president said.

The absence of a unified system to halt trading in individual stocks led to bitter accusations between exchanges on Friday. Robert Greifeld, chief executive of Nasdaq OMX, appeared on CNBC to criticize the New York Stock Exchange for halting trading for up to 90 seconds in half a dozen stocks on Thursday.

“Stopping for 90 seconds in time of crisis is exactly equivalent to not picking up the phone,” Mr. Greifeld said.

A few minutes later, Duncan L. Niederauer, chief executive of NYSE Euronext, responded in an interview on CNBC, blaming Nasdaq’s computers for continuing trading while the market was in free fall.

“These computers go out and just find the next bid they can find,” he said.

Mr. Niederauer acknowledged the need to introduce circuit-breakers along the lines of those already in place on the Big Board, and his views were echoed by some chief executives of the new exchanges.

Wall Street stumbles into September

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NEW YORK (CNNMoney.com) — Markets tumbled Tuesday afternoon, as investors took a big step back at the start of what is typically a rough month, betting that stocks have risen too far too fast without any underlying support.
“I think we’ve had a nice run and it’s time for a bit of a pullback,” said Tom Schrader, managing director at Stifel Nicolaus. “I wouldn’t be surprised if we moved back to the 880 level (on the S&P 500) before moving back up.”
A drop to the 880 level would constitute a slide of about 12% from the current levels.
Investors nitpicked through the morning’s better-than-expected reports on housing and manufacturing but found little reason to jump back into the fray.
With around 40 minutes left in Tuesday’s session , the Dow Jones industrial average (INDU) had lost 160 points, or 1.7%. The S&P 500 (SPX) index fell 18 points, or 1.8%. The Nasdaq composite (COMP) fell 33 points, or 1.7%.
“I think the ‘whisper number’ for [the manufacturing report] was higher and once people digested that, the market swung in the other direction,” said Schrader.
Schrader said that investors were also reacting to the “calendar influence,” amid a variety of reports about the tendency for September to be a weak month on Wall Street. September is typically the biggest percentage loser of the month for the Dow, S&P 500 and Nasdaq composite, according to the Stock Trader’s Almanac.
“The reports this morning were positive, but investors are basically saying that stocks have had a good run up and now it’s time to take some profits,” chimed in Phil Orlando, chief equity market strategist at Federated Investors.
Stocks have essentially been on the rise since March, as investors have welcomed extraordinary fiscal and monetary stimulus and signs that corporate profits and the economy have stabilized. The major gauges ended last week at the highest levels in 9 to 10 months. Financial shares took a beating Tuesday after enjoying a nice ride through the late summer, fueled largely by speculation and momentum.
But with the S&P up 52% from the March 9 lows, market participants are now looking for concrete evidence that the economy is recovering. The morning’s reports were positive, but perhaps not as positive as the most optimistic forecasts.
Manufacturing: The Institute for Supply Management’s manufacturing index for August showed growth in the sector for the first time since January 2008. The index rose to 52.9 from 48.9 previously. Economists surveyed by Briefing.com thought it would rise to 50.5.
Pending home sales rose for the sixth straight month, jumping 3.2% in July, to the highest point in nearly two years, according to a report from the National Association of Realtors released Tuesday morning. The index rose 3.6% in June. Economists surveyed by Briefing.com thought sales would rise 1.5% in July.
Construction spending fell 0.2% in July versus forecasts for an unchanged reading. Spending rose a revised 0.1% in June.
Financials: Many of the summer’s big bank sector winners led the declines Tuesday.
Dow component Bank of America (BAC, Fortune 500) slipped 5% in active NYSE trading. BofA was the biggest Dow gainer in the June through August period, rising 56%.
Dow component American Express (AXP, Fortune 500) lost 4% Tuesday. Over the last three months, AmEx has gained 36% and was the second-best Dow performer.
Dow component JPMorgan Chase (JPM, Fortune 500) lost 3% after rising 17% this summer.
Among other movers, Citigroup (C, Fortune 500) lost 6% after rising 34% in the summer. Regional bank Fifth Third Bancorp (FITB, Fortune 500) lost 5% after rising 59% this summer.
The KBW Bank (BKX) index fell 4.6% after rising 20% over the summer.
Oil prices and stocks: U.S. light crude oil for October delivery fell $1.91 to settle at $68.05 a barrel on the New York Mercantile Exchange. Oil prices have been slipping since hitting a ten-month high just below $75 a barrel late last month.
The decline in oil prices dragged on heavily-weighted energy stocks including Dow components Chevron (CVX, Fortune 500) and Exxon Mobil (XOM, Fortune 500).
Auto sales: The government’s popular Cash for Clunkers program gave a boost to sales in August, major automakers said. Although a plunge in sales in the last week of the month, following the program’s end, suggests the impact will not be far reaching.
Company news: Online auctioneer eBay (EBAY, Fortune 500) said it will sell a large stake in its Skype Internet phone business to a group of investors for $2.75 billion.
World markets: European markets tumbled, while Asian markets ended higher.
Bonds: Treasury prices rose, lowering the yield on the benchmark 10-year note to 3.37% from 3.40% late Monday. Treasury prices and yields move in opposite directions.
Other markets: COMEX gold for December delivery rose $3.50 to settle at $957 an ounce.
In currency trading, the dollar gained versus the euro and the Japanese yen.
Market breadth was negative. On the New York Stock Exchange, losers beat winners by over four to one on volume of 1.09 billion shares. On the Nasdaq, decliners topped advancers by over three to one on volume of 2.19 billion shares.