The Dark Knight Trips & Falls

Flash trading, programmed trades, software honed to tiny fractions of a second reacting to market changes and superfast computers located really close to stock exchanges that provide institutions with the money and expertise to use these sophisticated technologies to create a competitive advantage completely unavailable to individual or smaller traders. These little guys don’t have reaction time of a thousandth or less of a second to make trading decisions, and they do not have the ability to scan the entire market every second. In short, the big and rich institutions that can afford to use or access these technologies have a huge edge over everyone else. If you have to take time to think about a trade before you buy or sell a publicly-traded security, you lose.

Knight Capital Group – a name unfamiliar to most of America – often operates on behalf of institutions and prides itself on it highly reactive market software. Its clients include(d) biggies like Citigroup. The August 2^nd New York Times reports that Knight handled roughly 11% of all stock market trades in the U.S. in recent times. As the New York Stock Exchange changed the way its software-linked retail customers accessed the NYSE, Knight also reacted. On August 1^st the NYSE “began a program intended to loosen the stranglehold that brokerage firms like Knight had over retail investors. Under this program, trades from retail investors now shift to a special platform where trading houses compete to offer them the best price… Knight sought to stay nimble. Over the [prior] several weeks, the company tweaked its computer coding to push itself onto the new platform.” NY Times.

Knight’s software was supposed to react to market changes, but when they deployed their new software on that fateful Wednesday morning, the computer went rogue. It began initiating trades, issuing an explosion of orders so large that they actually impacted the overall market and share prices on over 100 companies, from Ford Motor to American Airlines. By the time the company caught the mistake and undid these trades, the firm incurred losses which are estimated at $440 million, a huge hit for a firm that made about 60% of the sum as total revenues over the entire second quarter of this year. Other programmed trading software in other firms, sensing the market anomaly caused by this apparent Knight computer error, generated handsome profits to the outside firms that just plain lucked out.

Knight was devastated, lost some major customers (apparently Citigroup) on the spot and now faces investigation by the Securities and Exchange Commission for possible violations. It contacted some of Wall Street’s biggest financial institutions for some stop-gap financing support to handle the massive hit to the firm. Some questioned whether Knight would even survive this debacle; its stock fell almost immediately by 63%.

But is this a story about comeuppance or simply a reminder that in a highly sophisticated world, those without access to that technology have been marginalized, rendered second class citizens? We have two tax codes (capital gains for investors fund managers and earned income with double peak rates for workers), two sets of regulatory schema (“too big to fail” exemptions vs. what the rest of the world must face) and tons of laws and judicial rulings that clearly allow the rich specialize access to trading benefits and even to fund political issue campaigns that are pragmatically unavailable to the vast majority of Americans.

The United States of America is no longer a nation which aggregates the sensibilities of millions of voters to guide the nation. We have become a nation simply governed by and on behalf of the power elite that control the political campaigns and hence the legislation that emanates from the state and local level to the nation as a whole... and hence the resultant economy. Why does most of America seem to miss the point that they have done a very, very bad job over the last few years… and while we all suffered, look at who recovered first.

I’m Peter Dekom, and if people really believe that this system will continue unchecked and that America is in fine shape without any material changes, they are smokin’ crack!