Algo Trading Systems Can Be 'Dumb'
The British pound plummeted more than 6 percent in around one minute, sharing some characteristics with the flash crash seen in the U.S. market back in 2010.
According to Gadfly's Christopher Langner, liquidity, fear and large positions are some of the common characteristics shared by flash crashes. However, a new variable has entered the equation as of late: computers and algorithms holding derivative products that allow leveraged bets, such as currencies.
The crash in the British pound may serve as the latest warning that more crashes can occur, unless regulators start taking a "serious look" at the role machines play in the marketplace.
After all, the British pound is a top global currency, and despite the post-Brexit vote woes, the currency usually moves in the hundredths of a percent at a time — certainly not 6 percent in one minute.
Langner noted that computers are great at increasing speed and efficiently, at its core they are "dumb." Machines are merely programmed to do as told even doing so goes against human logic. He even suggested that there is a large void of smart people who are able to write exceptional trading programs. Meanwhile, all the existing designers are creating trading machines that are based on "only a handful of strategies."
"Any moves are exacerbated simply because everyone is doing the same thing," Langner suggested. "If authorities need any more reason to start scrutinizing the role of computers in markets, today's flash crash was it."
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