"When misguided public opinion honors what is despicable and despises what is honorable, punishes virtue and rewards vice, encourages what is harmful and discourages what is useful, applauds falsehood and smothers truth under indifference or insult, a nation turns its back on progress and can be restored only by the terrible lessons of catastrophe." … Frederic Bastiat

Evil talks about tolerance only when it’s weak. When it gains the upper hand, its vanity always requires the destruction of the good and the innocent, because the example of good and innocent lives is an ongoing witness against it. So it always has been. So it always will be. And America has no special immunity to becoming an enemy of its own founding beliefs about human freedom, human dignity, the limited power of the state, and the sovereignty of God. – Archbishop Chaput


Friday, April 13, 2012

Algorithms Gone Wild - AGAIN, and AGAIN, and AGAIN

What more is left to say at this point other than the fact that the hedge fund computers and their damnable algorithms have destroyed the integrity of the US futures markets. The sheer size, extent, ferocity and volatility of the moves that these pestilential computers are creating have rendered these markets basically useless for what they originally came into being for, namely, risk management for commercial entities.

Price swings of this magnitude are blowing up hedged positions put on by commercials and other end users/merchants/processors, etc. While margins are reduced for legitimate hedgers, they still must meet any and all margin calls on any hedged position, whether that is a long position or a short position. Some will say that all they need to do is to buy or sell the corresponding physical commodity and while simultaneously lifting the hedge. That might work fine on paper but in the real world it is a fabrication.

A cattle feedlot, a grain elevator owner/operator, a cocoa processor, a cotton mill, etc, may or may not have the actual product ready to sell as it is still maturing or growing in the field or may not be ready yet to actually buy the product but they might have hedges in place while they are waiting. So much for their hedges in this sort of idiotically insane trading environment. Their hedges are getting blasted to kingdom come but they must maintain the thing if it moves against them meaning that they need cash to meet any and all margin calls.

At some point, the cost of doing so, with hedge fund running prices all over the damn planet on a daily basis, is no longer feasible.

I am predicting here and now that unless something is done to corral these hedge funds, the futures market is going to become useless as a risk management tool for non-speculative entities.

Take a look at the following CCI chart (it might as well be copper or silver for that matter) and look at the extent of the daily price swings. Tuesday saw a big sell off across the sector as traders feared European debt woes and that brought about the RISK OFF trades. Commodities were dumped, the Dollar was bid higher and up went the bonds. The next day was relatively tame by comparison as traders were hesitant to do much of anything. Thursday saw the entire losses of the previous two days erased as Fed Governor Dudleys' comments were interpreted as making the case for another round of QE forthcoming sooner rather than later.

Today, news hit that Chinas' growth had slowed in the first quarter to a "pitiful" 8.1%. Yep, such a debacle ( if we could get half of that over here, a lot of our fiscal budget woes and our unemployment problem would actually get better). I am of course being sarcastic but once again the hedge funds and their mindless machines dumped everything in sight since we all know that no one needs to eat when growth is slowing down now do they? The result, YEP - all of the Dudley rally went down in flames with the market right back where it ended Tuesday.

Maybe we all should just go the hell to sleep and wake up in a year and see if the chart has actually gone anywhere besides up and down like a stinking yo-yo.


  1. You really have to be holding some physical metal to keep our sanity in this market.

  2. Sign of decay in a complex system...

  3. Trying their best to destroy the belief in currency devaluation. It will instead destroy the people who depend on it. Then it will destroy themselves.

  4. The algos are indeed insane. Isn't most of the volatility liquidity-induced? As the algos get more liquidity, swings become greater.

    That liquidity issue is obviously curtailed by gold's physical presence. There's a similar situation with Bitcoin, and it seems to be a draw with the same banker-types that create and manage the HFT algos.

    I've found that Bitcoin price movements have been somewhat predictive of the precious metals. There's an interesting correlation, although I'm still working on narrowing down the dynamic and how strong the relationship is.

  5. The sheer size, extent, ferocity and volatility of the moves that these pestilential computers are creating have rendered these markets basically useless for what they originally came into being for, namely, risk management for commercial entities.

    You know, I just realized a computer is NEVER going to take a risk, absolutely no emotion involved. Perhaps some of you figured that out years ago, but what else will this market do if it is run by computers. Ever see Terminator??

  6. http://jessescrossroadscafe.blogspot.com/2012/04/saving-capitalism-from-capitalists-are.html

  7. Bottom line is that Bernanke has successfully managed the "inflation expectations" game by deftly and expertly jawboning the commodity markets down at will.

    It is as if he's got a giant meatball leading a pack of greyhounds at the dog track. He actually doesn't even have to do anything other than utter a few words and "bam"!, the terrified Algos run for the hills, buy dollars, dump their commodity positions, and inflation is instantly "whipped."

    Bernanke will go down as the Greatest Central Banker of All Time, as he has managed to:

    a) Create insane bubbles in specialty retail and restaurant stocks

    b) Run up huge deficits and at the same time drive interest rates down to 45-year lows

    c) Crush any commodity that threatens his inflation expectations management

    d) Enrich the 1% crowd who has successfully invested in Fed-approved and TBTF-sponsored investments such as SBUX, CMG, LULU, HD, LOW, etc. and send the gold bugs, anti-dollar investors, etc. to the poorhouse.

    Bernanke's expert manipulation and control of these markets will go down as the greatest in world history and he will be discussed and talked about in Economics textbooks for the next 100 years.

    1. "Bottom line is that Bernanke has successfully managed the "inflation expectations" game by deftly and expertly jawboning the commodity markets down at will."

      So far, however...

      The Emperor has No Clothes

      Sustainable Land Development Initiative has developed a universal geometrical algorithm that balances the needs of people, planet and profit - The SLDI Code

  8. Markets go up and down. Whipsaw is part of it, sometimes alot.

    The CCI chart above: It isnt gapping up and down limit moves in an untradable, random number order. Your chart above shows a downtrend with a double bottom pattern.

    I wonder what, more specifically and deeply, is bothering you? I mean my question sincerely and supportively.

    From one 20yr veteran trader to another.....



  9. Tom V
    I am stunned to learn that markets go up and down and whipsaw. After 2 decades + of trading for a living I never knew that until I was kindly informed by you about such things.

    What is bothering me is 3% moves up and down and then back up and then back down in many of the major markets based almost on a daily basis.

    It is not markets moving in sideways patterns that is the problem - it is huge upside reversals followed by huge downside reversals with all of that reversing the next day and then the day after.

    What is happening is exactly what I stated - you apparently have no contacts in the commercial arena with legitimate hedgers being blown out of their hedges on account of this asinine volatility being created by algorithms gone wild.

    Tell me with a straight fact that these markets have the slightest resemblance to what was once considered NORMAL years ago.

    Traders adapt if they are to survive - I have no problem with that - what i do have a problem with is UNTHINKING computer algorithms careening prices all over the place with no connection to reality.

    If you are fine with that - so be it - I am not and stand by my prediction that the futures markets are going to cease to be a viable forum for legitimate risk management purposes and will more and more be left solely to speculators.

  10. "I am stunned to learn that markets go up and down and whipsaw. After 2 decades + of trading for a living I never knew that until I was kindly informed by you about such things."

    Sometimes the simple things get away from us - even veterans. Glad I could help.

    I notice your mildly hostile sarcasm. I notice I was polite and respectful with my original comment. Third paragraph above, second sentence. Simple to see my intentional qualification of my tone in print. Sometimes the simple stuff can and does get away from us.

    Straight face "on": Define normal so we can agree on (or not) our basic term of discussion. Pick the market that typifies your argument the most obvious as well. I notice cotton has been in a fairly tight range trade since Oct 11. Wheres the algo run amok?

    Change is normal. Markets change character, direction - a basic trendfollowing tenent. If you pick a different definition of normal, you can be right too.

    I wonder what makes you so sure its Algos versus something else or a number of something else...cheap/massively abundant Fed/World Central bank credit, ETF/ETN fast money inflows from equityland, etc. Maybe you can shed light on your data source showing that the vast majority of this vol comes from algos run amok. I have genuine interest to know.

    I agree with you regarding the end effect on hedging whatever the underlying reason. I add the MF Global segregated account fraud fiasco damages systemic commodity/futures market integrity as much and highlights the level and perniciousness of the current criminogenic corporate/regulatory "governance" structure. Moreover, the destruction of hedgers may lead to structural damage to food supply providers and their intermediaries. This is fucked and seriously high stakes: guns 'n butter trade. I can see the risk/stakes. You mention nothing about this, but is this your end game worry that has you so heated?

    I respect your feeling as a veteran. I like to understand it better. Maybe you can turn off the sarcasm if you choose to respond.


    Tom V

  11. Tom V;

    My response was indeed mildly sarcastic given the fact that you chose to start off your comments with what I took as a condescending tone. You do not need to educate me as to the nature of market behavior.

    If I was wrong about that, I apologize; but I do not need someone stating an obvious fact as if to lecture me because I have an opinion that I believe is genuinely arrived at over many years of watching the futures industry deteriorate.

    I warned some many years ago when we first went to the screen trade and away from the pit that this day was coming. Screen trade allows for easy tape painting while remaining completely anonymous.

    The Pit was honest and open. If anyone tried to play games, it was very difficult to avoid being detected because of the nature of the way in which bids and orders flowed into the pit.

    For instance, if Refco suddenly became a large buyer of live cattle, that was the end of the selling. Everyone on the floor knew who they were and no one disputed the fact that they had excellent contacts in the industry. Today, Refco, if they were still around, would be run over by the sheer size and magnitude of hedge fund related selling even if they made it known that they were buying. Why? Because hedge fund computer algorithms are disconnected from underlying market fundamentals. They look at the last price and that is that. No other equation matters.

    That then sets up the present reality that all that is required to cause these unthinking machines to reverse and go the other way is a big enough push that trips the last trade price above or below a pre-programmed level and that is all she wrote for that trading day. The push can be done by any entity large enough to briefly push a market through a level on the chart that a program has identified as a key one.

    Once you have that environment, add to that the ability of the pestilential Central Banks of the West and their incessant attempts to prevent the fallout from one bubble popping after another, and you have an entire market system that can be jammed higher or crushed lower merely because of something one of those authorities decides to utter on any given day.

    My point is very simple - the toxic combination of hedge fund computer algorithms and the constant interference by Central Banks is creating extreme volatility the likes of which I cannot remember seeing previously.

    You asked for a market - take your pick - copper, silver, bonds, platinum, etc - the currencies are bi-polar at this point.

    And yes, my concern in all this is the inability of true commercial interests having extreme difficulty maintaining proper hedges in this sort of environment and being forced to go elsewhere to find ways to offset price risk in order to allow them to focus on their business instead of being terrified of what is going to happen to their hedged positions and their risk management programs.

    I hope this is sufficient for you to grasp my point. I must end the discussion from my end here due to time constraints.

    Thanks for the feedback.

    1. I saw this coming in 10/87, the programmed trades would supersede human control and destroy the system. It is the "wargames" scenario extrapolated into economic ruin.Prof Quigley's Hope and Tragedy interdependence of economy and screens= the real domino theory .It is what is going on away from our veiw that is going to ruin us.The technocrats are strip mining Greece and Italy now before the world learns they have defaulted.The TARP was the initial camouflage for this takeover, now it accelerates. The end will be world war or the machine will eat the machinators and the movie "rollover" will reset the global system.Either way period 3 implies chaos, and I smell a trifurcation-

      not as crazy as it sounds, remember these famous last words,"What duck?"

  12. thanks. I appreciate your added clarity.


  13. The emphasis on algorithmic trades seems a bit exaggerated. You comment "Tell me with a straight fact that these markets have the slightest resemblance to what was once considered NORMAL years ago", to me, brings up the following fundamental question: when was the last time that the worlds biggest economies were facing default(s)? When was the last time so much debt was present in the economy? When was the last time there was so much uncertainty within the economy? That being said, it only seems natural for markets to be much more volatile!

    Also, some of your comments about the workings of algo's are beyond false. For instance, you mention "They look at the last price and that is that. No other equation matters." Your simplification here is approaching levels of absurdity that almost aren't even worth commenting on. Fundamentals absolutely are built into the algorithmic/HF models. I can tell you first hand that at work (State Street) we employ 'hybrid models' to take into account the most recent prices relative to their fundamentals. There are a plethora of algorithmic strategies, and you know quite well that they aren't nearly as simple as what you've mentioned. In addition, one could very well argue that the volatile swings are the result of a LACK OF machine trades. Contrary to the media mantra, high frequency machines generally prefer to trade in liquid, and low volatile markets. I'll attach a link where you may read more if you'd like.

    At the end of the day I get your message, and share a certain fear that the fundamental purpose of the market could be eroding. But I do not think that it's just to blame mechanical trades for what you're noticing. I guess if it were me, I'd first point my finger at the governments and central banks. To each his own.


  14. Chris;

    Please see my previous response to Tom - this is the reason I prefer not to get into "discussions" with folks over the internet.

    Apparently, many simply do not read what is written on the page before them.
    Here is the exact quote:

    "My point is very simple - the toxic combination of hedge fund computer algorithms and the constant interference by Central Banks is creating extreme volatility the likes of which I cannot remember seeing previously."

    I submit that had the markets been left to themselves, without Central Bank interference, the hedge fund algorithms would not be flipping back and forth between all in and all out on what often seems to be a daily basis. Now that the Central Banks are in the active business of managing markets, this toxic combination of computerized trading has fanned the flames of volatility making mincemeat out of hedging programs.

    Try telling the mortgage issuers who were attempting to hedge interest rate exposure that the algorithms pose no problems for them.

    As I said previously, I was warning that this exact thing was going to happen when the advent of screen trading occurred.

    This is all I am going to say on this issue - I have my views formulated by more than two decades making a living in these markets from trading, not from writing books or newsletters or playing broker. Believe what you will - especially your love affair with the HFT crowd - the worst plague to ever strike our financial system.

    Let's put it in trader's jargon - just say I will take the other side of your trade and let the chips fall where they may. We obviously have vastly different views of computerized algorithms and their impact on the financial markets.

    1. I have been a trader for 10 years and I totally agree with your above statements. As of February this year I no longer trade because of the above.

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