Ever since May 2010 I have had a favourite question at Forex Network conferences, “could we see a Flash Crash in the major FX markets? I stress “major” because friends on mine that still trade some emerging markets tell me my definition of a Flash Crash fits everyday activity in some regions!
I may have mentioned before a favourite diagram of mine that I use as part of my voluntary work on the ACI Australia Dealing Simulation Course. When preparing delegates for what they are about to face over the next four or five days I like to draw a huge set of doors on a white board, just above the tiniest window I can manage. This represents the ease of getting into a trade (thus making it crowded) – and the difficulty of getting out of it!
Thanks to a very good friend who dropped me a line last week, I now have a better analogy – it is like 100 elephants trying to get through a door!
I bring this up because my friend, whose opinion I respect greatly as a successful player in our industry, defined Thursday’s yen move as a Flash Crash. I think the general acceptance is the market dropped something like 130 points in three or four minutes.
Historically I have been a little loath to count such a move as a Flash Crash, mainly because I was on the receiving end of much worse through the 80s and 90s! A more measured and realistic response, however, is to look at market moves in the context of the modern FX market.
Put simply, in the electronic age with so many “liquidity providers” (can we redefine that yet?), this sort of move in the majors is not meant to happen. There are so many firms that tell us they make markets in the yen especially, that to hear of large gaps is truly a surprise. Clearly we have a more than healthy sprinkling of fair-weather market makers.
Thursday also reinforced a point I made a few weeks ago in this column that nothing much has changed. Citi reports that it had a record day in terms of number of tickets, and EBS and CME both had their busiest day for some time. What does this tell me? It reinforces my point that when the nasty stuff is flying, people turn to traditional venues.
As to whether Thursday can be termed a Flash Crash I am less sure, but there was definitely a “blink and you will miss it” element that could fulfil that definition. It would be interesting to see the price point data on one or two of the major public platforms and a bank platform to see exactly what the gaps were.
I would also be interested to have this data on hand the next time such an event happens, because EBS seems to be siding with ParFX over the need for a latency floor, thus it will be interesting to see what liquidity looks like in a “free” era and one where time constraints are at work.
I suspect the outcome will be little different, no doubt there were some instances of prices hitting the platforms and being killed before anyone could trade (does this represent price “flashing” I wonder?) but in general gaps were the result of liquidity providers turning off their stream (perhaps because their “ahem” downstream sources of liquidity also dried up?). That will happen, latency floor or not.
So in the modern FX market, where everyone claims to be a market maker because proprietary trading is either frowned upon or too expensive, we should get ready for more of these moves. After all, if someone’s existence is predicated upon making money as a market maker why would they step in front of the train when they don’t have to?
This means we can expect to see more price gaps as traditional relationships are diluted, indeed if we get too many of these moves it will be interesting to see if buy side firms revert back to the B2C relationship at the expense of aggregation.
Last week highlighted to me that we exist in a new world, where definitions have to be redefined. I still tend to think of last week as a “sharp move” but am willing to bow to superior experience in the form of my friend and go with Flash Crash.
Having said that, Thursday also proved that one adage from my day that does continues to live on. Liquidity means you can get as much done as you want when you’re wrong….