Discussion in 'Index Futures' started by taodr, Jul 31, 2003.
Article on recent spikes
As I've said before, the key problem with electronic index contracts is that they move too fast to be arbed in some cases. This then sets off a chain reaction of stops being triggered at multiple levels.
Perhaps the exchanges themselves will have to take over the arbing responsibility and only let the futures move as fast as they can be arbed (electronically of course).
Thanks for posting.
Who wants index arbs ? certainly not me, as long as I cannot do it myself...
Lewis Borsellino spoke last week at the Chicago trade expo. He was most vociferous in his opinion that there should be no arbing at all. He shared several "stories" on how you can really f*** with everyone by hiding orders between open outcry and electronic. A real eye opener for me.
Could you share this one with us ? A little hint would be much appreciated.
First off, my belief is, that understanding what can happen won't change what you do. You need to stick with your plan, and then if something goes haywire, follow the plan and most importantly don't beat yourself up over it.
I realize what I'm about to explain is obvious to most ET'ers, I'm just not a real clever guy, so this was new to me.
The really basic example is where a familiar face on the floor starts bidding up the contract and gets everyone else excited, but the famiiliar face has his cronies steadily selling in the electronic market.
As an aside, Borsellino pointed out that the price differential between open outcry and emini contracts (referring to the SP500) can be just enough to give his computerized systems conflicting signals.
Borsellino basically feels that to make for a truly level playing field you gotta get rid of the games.
I wish I could give you more specifics, but my mind was just overloaded with info that day, I walked away remembering more the concept than the specifics.
Of course the massive irony is that by canceling trades the exchanges are penalizing the buyers who step in to stabilize the market. Often these busted trades leave buyers naked short and benefit those directly responsible for the dramatic declines. Price changes don't occur in a vacuum. The reasons for the snapbacks is because risk takers stepped in and made purchases, in many cases not knowing whether the sudden breaks were the first reaction to horrific news.
For the exchanges this will be a tough problem to fix. While many participants choose to have stops away from the market residing on exchange servers, there is little incentive to leave a size bid or offer "live" away from the market. Why work a bid for 500 ES ten handles lower when the only way you're going to get filled is if something bizarre happens as the market trades off 50 points! Thus at any given time, i.e. all the time, the aggregate number of stops far exceeds the number of limit orders in the book. Don't let the size you see in your "market depth" deceive you, that is only a sample of what is close to the market and thus somewhat "marketable". Further away from the current bid/offer the number of limit orders severely decreases and the number of stops hugely increases.
The CME's secret plan to counteract the avalanche of stops is noble, BUT, what if a legitimate terror, assassination, resignation, or Fed action justifies a sudden revaluation of futures beyond a previous defined yardstick. There were a few rate cuts in the last few years where being filled 10 pts worse on a stop would have been a great fill!! For lack of a better idea perhaps there should be no new circuit breakers but instead could the exchanges offer some inducement (waive fees) to institutions who leave resting orders scaled away. I don't know but maybe a great way to "pay" these institutions for liquidity would be to not bust their bargain basement trades when they're actually winners.
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