The Wall Street Journal explains the May 6 market crash

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DJIA20100506

The DJIA May 6

From the May 8 Wall Street Journal:

“Some traders say one culprit for the quick downdraft might have been a type of trade called an “intermarket sweep order,” or ISO. ISOs, which some studies say account for nearly half of all trades, send trades to whatever exchange that has the best price. The order can remain there until it is filled—even if that means the price falls to near zero.”[1]

Points will be awarded to anyone who can parse that paragraph to explain anything — anything — about the crash.  Extra credit for those who can explain how an ISO “buy” order (which seems to be what’s being described) could contribute to a decline in price.

The New York Times contributes to the disarray:

‘“On Thursday, some sellers placed orders that were not fulfilled until prices had plunged as low as a penny a share. If sellers had placed “limit orders” instead, those transactions would not have happened, Professor Harris said.’[2]

Let’s see – sellers placed orders that were executed at $0.01 per share.  This sure sounds like a limit order to me.  Even more points will be awarded to anyone who can differentiate what the Times described and a limit order.  No fair using outside sources.  You have to use the material as quoted.  (You are allowed to refer to the entire article as cited below, however.  But watch out.  Devious editors have been known to alter content on the fly.)


[1] http://online.wsj.com/article/SB20001424052748703338004575230600732737716.html#mod=todays_us_page_one.  URL may change and may require registration and/or subscription

[2] http://www.nytimes.com/2010/05/09/business/09trading.html?hp. URL may change and may require registration and/or subscription

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About Tony Lima

Retired after teaching economics at California State Univ., East Bay (Hayward, CA). Ph.D., economics, Stanford. Also taught MBA finance at the California University of Management and Technology. Occasionally take on a consulting project if it's interesting. Other interests include wine and technology.

3 Replies to “The Wall Street Journal explains the May 6 market crash”

  1. Touc

    The May 6th “crash” needs to be put in some perspective.

    First, exaggerated declines in individual stocks happen more frequently than most people think. Stocks tend to crash in the pre-market and after hour sessions without notice. Although pre and post-market crashes don’t wipe out 99.9% of the value in stock, there is the 20% to 30% swings which wouldn’t normally happen in a “liquid” market. Future market crashes will occur in the pre and post-market sessions.

    Second, market crashes within the normal trading hours are not very unusual. My favorite example is the one that took place on May 9, 1901 and was known as the “Nipper Panic.” On that day, Northern Pacific (of Burlington Northern fame, recently bought by Warren Buffett) stock traded as low as $160 and as high as $1000. At the close of market, the Northern Pacific (Nipper) settled at $325, up $165 for the day. Nipper was the victim of a short squeeze. Keep in mind that all other stocks generally crashed on that day. As you can imagine, the market was stomach churning to say the least on that day.

    Finally, single day “crashes” will increase now that regulators want to put a noose around the neck of an individual falling stock price. Regulations have put in place mechanisms to halt a stock if a decline equals 10% within a 5 minute period.

    It will be with interest as we watch market participants navigate around the system set up to limit stock market crashes. It should be noted that circuit breakers instituted after the 1987 crash were frequently triggered in the Dow Jones Industrial Average climb from 2,000 all the way up to 14,164. Interestingly, when the Dow declined from 14,164 in October 2007 to the low of 6,640 in March 2009, circuit breakers were not triggered once.

    My take on the matter for what it is worth.

  2. Tony Lima

    Exactly! Even if you don’t believe the random walk hypothesis, the variance of individual stock prices — as well as the market — implies occasional large sudden changes.

    Comment worth quite a lot as far as I’m concerned!

  3. Touc

    The following is a list of stocks that have been halted after the “flash crash.” I’ve added the NYSE spokesman’s commentary for added color. Imagine your stock going from $39 to $100,000 in minutes. Let’s watch this list grow.

    July 6, 2010
    Anadarko Petroleum (APC)
    10:56am EDT to 11:01am EDT Anadarko shares trade from $39.14 to $99,999.99. “‘We are still learning from the experience,’ he [Ray Pellechia] said.”

    June 29, 2010
    Citigroup (c)
    1:03pm EDT shares trade from $3.80 to $3.3174 or down 12.7%. “The erroneous trade was subsequently canceled, NYSE spokesman Ray Pellechia said.”

    June 16, 2010
    Washington Post (WPO)
    3:07pm EDT Washington Post stock trades from $450 to $919 or up 104%. All trades were cancelled. “‘What happened today was not due to a substantive, true move in the stock. It was simply an error,’ NYSE spokesman Ray Pellechia said.”