If you would like our periodic analysis of the economy and the global markets delivered directly to your Inbox, please visit http://www.orioncapitalmgmt.com/letters.html to sign up.
On May 6th, global stock markets were enduring a brutal day stoked by persistent video of riots by very unhappy people in Athens. The European markets had ended the day sharply lower and the Dow was trading down about 350 points by mid-afternoon New York time. Then something unprecedented happened: in 15 minutes the Dow lost another 650 points to push the average down 998 points from the open.
Was a “fat finger” trade to blame? A “fat finger” is a trader error, and initial reports stated that a trader had
mistakenly typed in “billions” instead of “millions” into his/her trade order. While this theory was soon debunked, a full analysis of exactly what happened and why is still ongoing.
Proctor & Gamble (Symbol: PG), a global consumer products behemoth founded in 1837, played a starring role in this brief drama. In the span of minutes, the stock of Proctor, which is one of the 30 components of the Dow Jones Industrial Average, dove from $61 to under $40, putatively wiping out tens of billions of the company’s market value. The drop in P&G stock contributed greatly to the loss on the Dow, but was it for real?
One thing is certain, and that is that the intrinsic value of Proctor & Gamble the company changed very little on May 6th while its stock was plummeting. What did happen was that the New York Stock Exchange (NYSE), where much of the trading volume in P&G takes place, stopped trading the stock for about 80 seconds. Then, computer trading programs that were looking to sell P&G stock had to look to other venues to execute their orders, causing a crush of sell orders for which there was not adequate liquidity. The result was a plummeting stock price. Many traders also think that computers models detected the falling price of P&G and then moved to automatically sell other stocks as well, putting pressure on other parts of the market.
In any case, when all was said and done, the NYSE reopened trading in P&G and the stock ended the day at $60.75. Today, May 14th, P&G closed at $62.54.
Trading in the markets has grown exponentially more complex in the last ten years. Human market-makers have long since been eclipsed by computer-driven systems and stocks are traded in dozens of venues. Clearly the flaws in the system were laid bare on May 6th and tighter controls and structural reforms to the markets are coming. What is likely, however, is that we will see more such episodes as the regulatory authorities play catch-up with the extraordinary growth in electronic trading.
As always, please let us know if you have any questions about your investments or the markets.
To learn more about Orion, please visit http://www.orioncapitalmgmt.com
Peter Thoms, CFA
JF (Seph) Huber