In October this year the SEC sponsored a technology roundtable to discuss how to promote stability in today’s markets. This is after a year with headline grabbing stock market failures;
Disrupted trading in the markets
In March the BATS Exchange IPO was halted and the BATS exchange stopped trading for hours, because the IPO price of BATS went from $16 to zero in minutes. In May the Facebook IPO on the NASDAQ had issues due to extreme volume coupled with the effects of high frequency trading. The rate of order change and cancellations prevented the exchange from establishing a price for the IPO. The orders changed that fast, sub five milliseconds. Then Knight Capital suffered from a software issue. They installed new software to work with the NYSE’s new Retail Liquidity provider program. The software sent buy orders out from the market open and continued unnoticed for 30 minutes. Knight Capital was not aware of the impact it was having to the marketplace.
In between all this, you can find many examples of micro-flash crashes of single stocks. These can be seen by visiting the web site of Nanex (www.nanex.net).
The SEC Roundtable review
The morning session lasted 2 ½ hours. The roundtable was kicked-off with by the SEC Chairman Mary Schapiro. The success of the market is tied to the technology and when it fails, the consequences are extreme. These events continue to erode confidence in the market. The industry needs to address the high volume of cancellations. Also, there are more basic technology 101 issues occurred during the two IPO cases and the Knight Capital case. We need to balance the need for rapid innovation and competition with the proper and diligent testing methods.
My key take-a-ways from the morning session of the roundtable;
- There is a need for firms to have a better understanding of their impact to the overall market. This would involve using Drop-Copies, where the exchanges send real-time trading records back to the broker/dealers, so they would understand their order flow. The broker/dealer could then run real-time reports to check their orders.
- Improved testing strategies within the firms and an elevation of the Software Quality and performance profession. While QA people are independent from the development teams, they must be integrated into the development teams. The QA role in the firms must change to attract the best and the brightest to the role, including functional testing, as well as performance testing.
- Testing in production. This is always a controversial topic in any industry. The firms and exchanges would agree on a number of testing Symbols for use when testing new features. This would require significant cooperation across the marketplace.
- A focus on internal software testing for stability, performance, and scalability. Introduce earlier involvement in the SDLC with software quality resources. The benefit that an outside organization can bring on the processes and test cases could be helpful. However, the roundtable participants discussed how difficult it is to being new people into the teams, due to the complex and technical nature of their systems.
- Orderflow kill switches for the firms and exchanges. The exchanges would provide this capability and allow each firm to set its own parameters or limits that would trigger the kill switch. This would allow brokers to manage specific order types, control the size or value of the order, limit prices, or restrict the stock they trade in. This came out of a working group that was established after the new meltdown Knight Capital.
The issues this year occurred in the exchanges and the broker/dealers, no one was immune from disruption. The key items that caused disruption were related to new or changed software and large volumes of orders. An Enterprise wide software performance engineering strategy will help mitigate these software issues, both for the brokerages and exchanges. The Market is facing a significant challenge with these issues. The need to innovate and introduce better features before the competition does, in a very complex and interconnected marketplace, with the need for rigor and increased testing. In addition production monitoring (really marketplace monitoring) is a critical component. The devil is in the details and the compensation models.