Dow plunge: market forces, human error, or technology-generated?

Posted on Friday, May 7th 2010 at 2:11 a.m.

When I was in University I took a course entitled “Computer Risks.”  The course focused on the risks to society of poorly designed, planned, or managed computers or technology.  We studied such cases as Clifford Stoll and the AT&T; long distance outage. I left that course with an appreciation for how technology can sometimes magnify human errors, and unintended consequences are always possible.

It’s this background that causes me to take a look at today’s market plunge and the theory that it could have been triggered by a data entry error by a Citibank trader  .

Right now we are dealing in pure speculation, so I don’t want to fall into the trap of reading too much into this incident at this time.  The gist as far as I understand is that a Citibank trader made an incorrect trade by a factor of 1,000 in Proctor and Gamble, one of the 30 stocks that comprise the Dow Jones Industrial Average.  As a result, the massively incorrect price caused the DJIA to suddenly drop.  Here are my thoughts about how this situation could have been either caused or magnified by technology.

  • Firstly I am no financial expert (I just help fix the computers of the financial experts); but I understand that the financial markets were rather jittery already due to economic instability in Europe, particularly Greece.  So the market was like dry dry tinder just waiting for a spark to set it alight.
  • Financial trading systems are meant for speed and have changed little in 30-40 years.  Transaction processing occurs on terminal sessions - the old green text on black background.  These systems have very little safeguards built into them for very good reasons - when companies count their profits in terms of 1/10th of a second, traders can’t waste time clicking on warning dialog boxes when they execute trades that are out of the ordinary.
  • There are many automated “watch” processes and trading mechanisms in place nowadays.  Grossly simplified, automation watches the market and says “If the market moves by X, execute step Y.”  Therefore, the sudden dramatic drop in the Dow could have triggered many of the automatic sell systems in place, resulting in an artificial selloff that magnified the drop in the index.
  • Self-trading is more accessible than ever, and panics can be multiplied by the ease at which sell orders can be executed, before rationality can stop.

I am concerned that sometimes people, in the rush to simplify and automate things, create systems where simple errors can quickly escalate to major disasters.  The post-mortem on this issue will determine whether this is a cause for future concern.

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