The Feds Say One Schmuck Trading From His Parents’ House Caused a Market Crash. Here’s the Problem.

Nikada/iStockphoto; alphaspirit/iStockphoto

Fight disinformation: Sign up for the free Mother Jones Daily newsletter and follow the news that matters.


On Tuesday, the Justice Department and the Commodity Futures Trading Commission, a key Wall Street regulator, blasted out press releases declaring a great victory in their war on illegal manipulation of financial markets. The reason for the feds’ braggadocio? They think they’ve caught the guy who caused May 2010’s “flash crash,” a market seizure that vaporized a trillion dollars in shareholder value in a matter of minutes.

Federal regulators say that Navinder Singh Sarao, a 36-year-old British futures trader whose company was reportedly based in his parents’ home, illegally placed huge sell orders he never intended to complete, artificially driving down the price of a key futures contract so he could later swoop in to buy it cheaply. (This is called “spoofing” in financial jargon.) There’s one big problem, though: By charging Sarao with “contributing to the market conditions that caused” the flash crash, federal regulators are changing their story about what really happened to financial markets five years ago.

Here’s the background. In the days and weeks after the flash crash, the Securities and Exchange Commission, alongside other regulators, worked diligently to figure out what had happened. The flash crash was chaos: Liquidity evaporated, the same stocks traded at both a penny and at $100,000, and CNBC hosts freaked out even more than usual. (Prices eventually returned to normal, and the SEC canceled some of the weirdest trades.)

The flash crash was essentially over in five minutes. But it took regulators nearly five months to come up with a theory about what happened. And in late September 2010, when the SEC and the CFTC—the same agency now charging Sarao with causing the crash—released a joint report on what happened, they didn’t mention spoofing, let alone Sarao. Instead, they blamed a large trade by a firm out of Kansas City.

It’s not even clear that the feds’ new explanation is correct. As Matt Levine notes over at Bloomberg View, regulators believe that Sarao continued to place massive fake sell orders in the years after the flash crash, but somehow that activity never triggered another crisis:

If regulators think that Sarao’s behavior on May 6, 2010, caused the flash crash, and if they think he continued that behavior for much of the subsequent five years, and if that behavior was screamingly obvious, maybe they should have stopped him a little earlier?

Also, I mean, if his behavior on May 6, 2010, caused the flash crash, and if he continued it for much of the subsequent five years, why didn’t he cause, you know, a dozen flash crashes? 

So I mean…maybe he didn’t cause the flash crash?

But in some ways, it doesn’t particularly matter whether regulators’ new theory is correct. What matters is that it took so long for them to develop it.

As I reported in January 2013, today’s financial markets move so fast that regulators can’t even monitor them in real time, let alone intervene if something starts to go wrong. Sophisticated trading algorithms can buy and sell financial products faster than you can blink—all without human intervention, let alone real-time human judgment. When something does go wrong, it can take months or years to figure out what happened. “A robust and defensible analysis of even a small portion of the trading day can itself take many days,” Gregg Berman, who wrote the 2010 SEC/CFTC report, told me in 2013.

Since real-time intervention by human regulators is impossible, regulators have to rely on automatic measures—fail-safes that stop trading if prices rise or fall too fast, for example. But these sorts of automatic braking systems are, by definition, designed in response to the previous crisis. “We’re always fighting the last fire,” Dave Lauer, a market technology expert who has worked for high-speed trading firms, said in 2013. As I wrote then:

Years of mistakes and bad decisions led to the 2008 collapse. But when the next crisis happens, it may not develop over months, weeks, or even days. It could take seconds.

More here.

AN IMPORTANT UPDATE

We’re falling behind our online fundraising goals and we can’t sustain coming up short on donations month after month. Perhaps you’ve heard? It is impossibly hard in the news business right now, with layoffs intensifying and fancy new startups and funding going kaput.

The crisis facing journalism and democracy isn’t going away anytime soon. And neither is Mother Jones, our readers, or our unique way of doing in-depth reporting that exists to bring about change.

Which is exactly why, despite the challenges we face, we just took a big gulp and joined forces with the Center for Investigative Reporting, a team of ace journalists who create the amazing podcast and public radio show Reveal.

If you can part with even just a few bucks, please help us pick up the pace of donations. We simply can’t afford to keep falling behind on our fundraising targets month after month.

Editor-in-Chief Clara Jeffery said it well to our team recently, and that team 100 percent includes readers like you who make it all possible: “This is a year to prove that we can pull off this merger, grow our audiences and impact, attract more funding and keep growing. More broadly, it’s a year when the very future of both journalism and democracy is on the line. We have to go for every important story, every reader/listener/viewer, and leave it all on the field. I’m very proud of all the hard work that’s gotten us to this moment, and confident that we can meet it.”

Let’s do this. If you can right now, please support Mother Jones and investigative journalism with an urgently needed donation today.

payment methods

AN IMPORTANT UPDATE

We’re falling behind our online fundraising goals and we can’t sustain coming up short on donations month after month. Perhaps you’ve heard? It is impossibly hard in the news business right now, with layoffs intensifying and fancy new startups and funding going kaput.

The crisis facing journalism and democracy isn’t going away anytime soon. And neither is Mother Jones, our readers, or our unique way of doing in-depth reporting that exists to bring about change.

Which is exactly why, despite the challenges we face, we just took a big gulp and joined forces with the Center for Investigative Reporting, a team of ace journalists who create the amazing podcast and public radio show Reveal.

If you can part with even just a few bucks, please help us pick up the pace of donations. We simply can’t afford to keep falling behind on our fundraising targets month after month.

Editor-in-Chief Clara Jeffery said it well to our team recently, and that team 100 percent includes readers like you who make it all possible: “This is a year to prove that we can pull off this merger, grow our audiences and impact, attract more funding and keep growing. More broadly, it’s a year when the very future of both journalism and democracy is on the line. We have to go for every important story, every reader/listener/viewer, and leave it all on the field. I’m very proud of all the hard work that’s gotten us to this moment, and confident that we can meet it.”

Let’s do this. If you can right now, please support Mother Jones and investigative journalism with an urgently needed donation today.

payment methods

We Recommend

Latest

Sign up for our free newsletter

Subscribe to the Mother Jones Daily to have our top stories delivered directly to your inbox.

Get our award-winning magazine

Save big on a full year of investigations, ideas, and insights.

Subscribe

Support our journalism

Help Mother Jones' reporters dig deep with a tax-deductible donation.

Donate