Econintersect: Here is a short quiz question: What financial services company is so well run that while the S&P 500 was declining by 57% 
between October 2007 and March 2009, this company actually gained more than 16%? The answer: Knight Capital (NYSE:KCG). But in the latest story of machine eats man, Knight Capital may be nearing the administration of last rights. It seems that the anomalous trading that caused 140 stocks to be halted on the NYSE (New York Stock Exchange) Wednesday morning at the open (01 August 2012) were caused by trades for huge volumes in those stocks from orders generated by a new trade execution program introduced overnight by Knight Capital.
The beautiful success story of this financial services firm has come unraveled in just two days of trading, shown in this 5-day chart from Yahoo Finance:
In after-hours trading Thursday evening, KCG lost another 14% not shown on the chart above. The price has fallen to $2.22 in just two days, a decline of nearly 79% from an intraday high of $10.48 on Monday and an even greater decline of 84% from highs above $13.50 hit a number of days in March and April.
A Reuters article in the Chicago Tribune says the company is fighting for its life after the “rogue computer(s)” (Econintersect term) produced over $440 million in losses Wednesday morning in only about 45 minutes of trading.
According to the Chicago Tribune:
Knight said it is “actively pursuing its strategic and financing alternatives,” raising the likelihood the firm will be sold or face bankruptcy because of the loss and subsequent damage to business.
Christopher Steiner, writing at Forbes, says that Knight has the resources to be able to weather this storm, one of the few observers making such a statement. He also says that traders and investors should be prepared because these computer created runaways will be happening again in the future.
The entire episode was reminiscent of the flash crash of May 2010 when anomalous order flows caused a sudden withdrawal of bidding by computers and saw the New York Stock Exchange plunge 1,000 points in a matter of minutes. That day some stocks saw trades as low as a few pennies because there were sell orders and no buy orders.
The latest as this is published from the ft.com alphaville 6am London Cut e-mail newsletter, Financial Times:
Vanguard, TD Ameritrade and E*Trade all routed trades away from the broker (Financial Times). Glitched trades affected 140 stocks on Wednesday. Knight’s market capitalisation shrank to $253m at the end of Thursday trading, a quarter of its value at the start of the week. Announcing the loss and a search for “strategic alternatives”, Knight approached Sandler O’Neill to advise on a possible sale, with JPMorgan providing funding (Wall Street Journal).
Sources:
- Knight Capital fighting for its life (Reuters, Chicago Tribune, 02 August 2012)
- Knight Capital’s Algorithmic Fiasco Won’t Be The last of its Kind (Christopher Steiner, Forbes, 02 August 2012)
- Newsletter, ft.com alphaville, Financial Times, received 12:52 am (New York time) 03 August 2012
