The 1000-Point Plunge
Reasons and results from yesterday's historic collapse.
The market swooned almost 1000 points intraday yesterday and the world is wondering why.
The explanation initially offered in the mainstream media was that it was a “fat finger,” which is trader’s lingo for someone pushing the wrong button. “Somebody pressed a “B” instead of an “M”, they said at the time. That’s silly, really; orders don’t trade that way.
Panic, guessing, post-rationalization, conjecture... does the noise wear on anyone else?
From my perch, I’ll offer a few scenarios that may have played a hand in the 1000-point Scary Mary and why, at the end of the day, none of them matter. Take it for what it's worth, which is one guy’s humble opinion.
First, the set-up: context is always important when telling a tale.
As discussed yesterday morning in Minyanville -- and posited the day before in real-time on the Buzz & Banter -- there was the overseas faux pas. The underlying bid Wednesday was pinned to hopes that the European Central Bank would be proactive -- if we can still call it that -- in getting in front of the percolating European contagion. When ECB President Jean-Claude Trichet shrugged his shoulders as if to say “What, me worry?” the floodgates opened.
We’ve seen this movie before and it doesn’t end well.
Adding to the stress in the system is the potential unwind of the carry trade. We flagged this dynamic a while back and dove a bit deeper into it earlier this week.
Hearken back to autumn, when we talked about The Other Side of the Dollar. When I scribed that vibe on November 18th, the dollar index (DXY) was trading at 75. Today, it's trading at 85. That's a 13% move, which is huge for currencies in such a short span, particularly given the leverage in the system and the derivatives intertwined throughout the world.
Regardless of your directional bias -- which is for you and you alone to decide -- please understand the sheer magnitude of the forces in play and the extreme nature of the cumulative excess. Perhaps technology is partially to blame -- the boom and bust cycles have seemingly sped up this past decade -- but don't for a moment discount the pressure that's built under the seemingly calm financial surface, including the last thirteen months.
Once upon a time, during that fateful day when Martial Law was declared for the markets, we wrote that it's never wise to mess with Mother Nature. And I quote:
"Price discovery works both ways and just as the market wrestled with risk gone awry, it must now digest the unintended consequences of this latest government action.
"This is a new world, folks. Day one. The dawn of a new era and something none of us have ever seen. The system was broken and rather than let it fix itself through time and price, history has forever been artificially altered. It is, in many ways, uniquely sad.
"Be that as it may, we must remain lucid and play the hand we’ve been dealt. To that end, I would urge Minyans to take a good, hard look at their risk and use price to their advantage.
"The rising tide will lift all boats in front of a perfect storm that awaits. It may have been pushed out on the horizon but it's there.
"And now it’s really mad."
I'm not saying the pissed-off perfect storm finally arrived, but a seismic shift overseas could conceivably cause a ripple that builds into a tsunami by the time it reaches stateside shorelines. That’s a problem if you’re surfing stocks with an eye to the sky.
A Matter of Perspective
Late yesterday morning, I shared some vibes that have been weighing on me, so to speak.
While this might strike some folks as odd, I’ve experienced this particular strain of “heaviness” twice before. The first was the night of September 10th, 2001, when I didn’t sleep a wink, and the second was heading into September 2008. “It” started earlier this week, which may have contributed to my more bearish stance on the Buzz & Banter.
Leaving the hocus pocus aside, there are a handful of “catalysts” -- away from the obvious causation that the market succumbed to the weight of an unsure world -- that could have caused yesterday’s “WTF” moment.
There’s the obvious: Yes, it’s conceivable a massive program hit the market, perhaps in error; a modern day equivalent of “Machines Gone Wild.” It’s happened before and it’s possible it happened again as technical levels broke and the tape was particularly vulnerable.
There’s conspiracy theory: The specter of digital terrorism exists, which I haven’t heard discussed and for good reason. If there was indeed a breach of national security, owning up to it would deliver the desired results for those responsible. I’ve heard that before, but not in a long while.
There’s the nonsensical: The “Crash Index,” which worked like a charm in January and again kicked in on Tuesday. Should the market miraculously recover into the weekend, after a 1300 point peak-to-trough slide in three days, a certain young lad would be deserving of a ticker-tape parade.
Click to enlarge
What’s my take? It doesn’t matter.
The system broke yesterday and the definition of a crash is when the market stops working. Assign any reason you like to the 1000-point slide -- which doesn’t count as capitulation in my book because nothing traded down there -- but the net result is the same. Case in point, I tried to take off some of my S&P (short-side) exposure with the DJIA off 800 and there was a $10-wide spread in my puts -- and then there was no market. Zero bid. That's not OK.
Why does this matter? Faith in the system and confidence in the process; we've long said -- heck, we said it yesterday morning -- that credit of a different breed -- credibility -- was the issue at hand for the markets at large. Psychology can be manipulated for a period of time but free will can never, ever be caged. If you doubt that for a second, read Viktor Frankl's "Man's Search for Meaning."
I would venture to guess alotta folks woke up this morning to the 1000-point swing and will look to take some risk off. IF -- and this is a huge if -- we’re trading lethargic midday, the stage will be set for a Fugly Friday that will lead to chatter of another Black Monday. That’s the thing about trust; it’s tough to earn and even tougher to regain.
Now, I don't wish that; it wouldn't be good for any of us regardless of what we've said or where we sit. It is, however, within the probability spectrum and it's an outcome we must respect. Ergo, we’re not the only ones sitting up and taking notice -- policymakers around the world are watching this with bated breath -- so the risk of "something seismic" out of Washington (or Europe) must be respected as well.
Are we having fun yet?
See both sides, define your risk and protect yourself; one thing for certain, Minyans, there will be far fewer players on the other side of this ride and our goal in the 'Ville is to make sure your among them.
As always, I hope this finds you -- safe.
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Todd Harrison is the founder and Chief Executive Officer of Minyanville. Prior to his current role, Mr. Harrison was President and head trader at a $400 million dollar New York-based hedge fund. Todd welcomes your comments and/or feedback at email@example.com.
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