Start the conversation
If you thought the Dow Jones Industrial Average gapping down at open last Thursday, then dropping a heart-stopping 785 points, and then rallying back 709 points to close down only 79.40 points was normal, you might be right.
As abnormal as that sounds, it's not unusual for equity markets to make intraday moves like that.
And while it's not unusual, the truth about how it happens is frightening.
Here's what's happening regularly in the markets, why it's so frightening, and how it affects you…
It's the "Bots"
The Dow's swing on Thursday totaled 1,494 points. In percentage terms, that's almost a 6% move.
That's not investors deciding at open to sell, sell, sell, then calming down and deciding at the end of the day to buy, buy, buy.
Investors don't invest that way.
In fact, traders don't even trade that way.
What that is, for the most part, is high-frequency trading (HFT) triggered selling on top of investor selling at the open. That petered out around 11:30 a.m. EST. Then HFT-triggered buying, which lasted until 2:00 p.m., followed – and was then followed by investors and traders selling until 2:45 p.m. Finally, another burst of HFT-triggered buying got investors to buy and short-selling traders to buy to cover their wrong-way bets, all the way into the close.
For sure, there are investors and traders at work all day. But the big turns – and a lot of follow-on momentum selling and buying – are caused by HFT gaming.
Investors were fearful at open Thursday. News that Meng Wanzhou – Huawei Technology's CFO and the daughter of Huawei's founder – was arrested in Canada on behalf of U.S. authorities put hopes that the United States and China might come to terms over tariff tiffs into a tailspin.
The $10 Company at the Center of a Revolution: It’s inked four deals with huge players in its sector, and it’s holding the keys to a potential global product. Click here to learn more…
Sell orders flooded exchanges before the open. Stocks gapped lower and sank in early trading.
Besides initial investor selling and traders shorting stocks, HFT algorithms automatically see there are sell orders coming down the wires to be executed – and jump ahead of those sell orders.
Because they can.
Their servers read incoming orders, and they can jump ahead of them because of their speedy access to exchanges' servers.
That means when investors' and traders' sell orders reach exchanges for execution, they often must take a lower price. A lot of those orders are market orders that knock prices lower, which scares investors more, which causes more selling, which HFT "bots" run in front of again, causing downward momentum.
That's what happened Thursday – and it happens a lot.
About the Author
Shah Gilani boasts a financial pedigree unlike any other. He ran his first hedge fund in 1982 from his seat on the floor of the Chicago Board of Options Exchange. When options on the Standard & Poor's 100 began trading on March 11, 1983, Shah worked in "the pit" as a market maker.
The work he did laid the foundation for what would later become the VIX - to this day one of the most widely used indicators worldwide. After leaving Chicago to run the futures and options division of the British banking giant Lloyd's TSB, Shah moved up to Roosevelt & Cross Inc., an old-line New York boutique firm. There he originated and ran a packaged fixed-income trading desk, and established that company's "listed" and OTC trading desks.
Shah founded a second hedge fund in 1999, which he ran until 2003.
Shah's vast network of contacts includes the biggest players on Wall Street and in international finance. These contacts give him the real story - when others only get what the investment banks want them to see.
Today, as editor of Hyperdrive Portfolio, Shah presents his legion of subscribers with massive profit opportunities that result from paradigm shifts in the way we work, play, and live.
Shah is a frequent guest on CNBC, Forbes, and MarketWatch, and you can catch him every week on Fox Business's Varney & Co.