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Stock Market Flash Crash Prompts Investors to Flee Equities

Stock-Markets / Market Manipulation Aug 29, 2010 - 06:21 AM GMT

By: Mike_Whitney

Stock-Markets

Best Financial Markets Analysis ArticleRobert Herz was forced to resign from his job as as chairman of the Financial Accounting Standards Board (FASB) because he insisted that the banks assign a fair value to their assets. That's not what you'll read in the papers, but it's true just the same. Herz was a major proponent of mark-to-market accounting, a simple means of determining the value of a bond or security by comparing the price of similar assets sold at market. In other words, Herz is a defender of universally-accepted accounting principles, which is why he was terminated, er, I mean, resigned. According to the Wall Street Journal:


"A new front has opened up in the war over mark-to-market accounting. Suddenly banks find themselves with an unexpected advantage in the fight over how they should value their vast holdings of financial instruments…

Mr. Herz had backed a recent proposal to expand the use of market-value accounting to banks’ loan books....Now, with Mr. Herz out of the picture, the future of the rule change may be in doubt."

Pretty nifty, eh? As soon as Herz became a nuisance for the banks, he got his pink slip. Surprise, surprise. It's just more evidence that the country is ruled by a Financial Mafia. Think of it like this: If you or I went to the bank to secure a loan using a dilapidated old bicycle and couple bags of empty cat food cans as collateral, we'd be ushered to the door by two beefy security guards who'd toss our sorry ass onto the street pronto. But when the banks use their putrid mortgage-backed sludge to borrow in the repo markets (or to conceal their true condition from investors), they get high-fives from bondholders and regulators alike. Herz threatened to blow the lid off the whole charade by exposing the extent to which the banks are doctoring their balance sheets and hiding the red ink on their books. Only he was sent packing (resigned?) before he got a chance to clean up the system. This is from the Huffington Post:

".... Herz's departure wasn't expected; his current five-year term runs for another two years...Herz has been "an effective investor advocate to improve the quality of financial reporting standards around the world." ..... Banks were forced in the aftermath of the financial crisis to write down trillions of dollars of securities tied to subprime mortgages, gutting their balance sheets even though the assets could eventually recover their value." (Huffington Post)

"Recover their value"? Not bloody likely. These toxic turkeys will never recover their value because they were fraudulent loans made to people who don't have the wherewithal to repay the balance. The whole thing was a scam from the get go, which is why Herz got the ax. Without "creative accounting" techniques (think Enron), the insolvency of the system would be exposed which, of course, the banksters cannot allow. Thus, Herz got the boot. End of story.

HIGH FREQUENCY CHICANERY: Update on the May 6 "Flash Crash"

Here's something else to munch on from Dennis K. Berman of the Wall Street Journal:

"Today, small investors are fleeing the equities markets in droves, according to data from the Investment Company Institute, pulling out a net $34 billion from stock funds so far this year.....They say, "I still feel like someone is screwing me......trading feels different than it used to."

Righto. Berman traces the problem to its source, the "inscrutable interplay between myriad exchanges and high-frequency traders, whose volume now accounts for an estimated two-thirds of all trading"..."a market that many perceive as tainted and prone to gaming by a cadre of insiders."

That sounds like an admission that the market is rigged?

High-frequency trading (HFT) is algorithmic-computer trading that finds "statistical patterns and pricing anomalies" by scanning the various stock exchanges. It's high-speed robo-trading that oftentimes executes orders without human intervention. HFT allows one group of investors to see the data on other people's orders ahead of time and use their supercomputers to buy in front of them. It's called frontloading, and it goes on every day right under the SEC's schnoz.

In an interview on CNBC, market analyst Joe Saluzzi was asked if the big HFT players were able to see other investors orders (and execute trades) before them. Saluzzi said, "Yes. The answer is absolutely yes. The exchanges supply you with the data, giving you the flash order, and if your fixed connection goes into their lines first, you are disadvantaging the retail and institutional investor."

Today's market is configured in a way that the only reliable way to make money is by increasing volume and trading on myriad venues. We're talking about gains of mere pennies per trade on zillions of trades. The problem is that--when there's a glitch in the system--the high frequency bullyboys head for the exits taking an ocean of liquidity with them. That leads to a "Flash Crash" like the one on May 6 when the markets tumbled nearly 1,000 points in a matter of minutes. And, guess what; there's nothing to prevent a similar cataclysm from taking place in the future, because nothing's changed. Everything is exactly as it was before the crash, which makes another disaster a virtual certainty.

There appears to be general agreement about the nature of the problem. Here's Berman again:

"When BlackRock Inc. surveyed 380 financial advisers earlier this summer about the flash crash, their perceptions said it all: The mayhem had been primarily caused by an "overreliance on computer systems and some types of high frequency trading" strategies that roam the market en masse, looking to pick off pennies of profit." ("A Market Solution That Put Investors in a Fix", Dennis K. Berman, Wall Street Journal)

No one wants to fix the problem, because then the big players would lose boatloads of money. So the vehicle continues to speed faster and faster down the mountain veering wildly from one side of the road to the other. How long before it jumps the guardrail and plunges to the bottom of the canyon? Stay tuned....

Capital Hill is awash in Wall Street's filthy lucre, which means that congress will block any law that threatens the main profit-centers of the big banks or brokerage houses. HFT, complex derivatives, securitization and repo transactions will all be preserved in their present state until the next big tremor rumbles through lower Manhattan bringing the markets down in a thunderous roar. Make sure the bunker is well stocked.

By Mike Whitney

Email: fergiewhitney@msn.com

Mike is a well respected freelance writer living in Washington state, interested in politics and economics from a libertarian perspective.

© 2010 Copyright Mike Whitney - All Rights Reserved Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

Mike Whitney Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


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