Sterling flash crash amplified by inexperienced traders, says report
Badly managed automated computer trading platforms and inexperienced Asian-based currency traders helped drive sterling's flash crash in October, a report has found.
The pound's 9% plunge against the US dollar in the early hours of October 7 was the outcome of a string of events, exacerbated by the fact that the crash occurred during Asian trading hours, thereby increasing sterling's vulnerability .
The investigation by The Markets Committee at the Bank for International Settlements (BIS) said: "The presence, outside the currency's core time zone, of staff less experienced in trading sterling, with lower risk limits and risk appetite, and with less expertise in the suitability of particular algorithms for the prevailing market conditions, appears to have further amplified the movement."
However, it dashed theories that the sharp fall was caused by "market abuse" or "fat finger" errors - where a trader enters the wrong order - claiming there was "little, if any, hard data to substantiate them".
Mark Carney, governor of the Bank of England, said there were no deep losses in the wake of the crash, but called for action to be taken to ensure market confidence.
"The report finds that there were no material losses incurred by systemic financial institutions, large volumes were transacted around the event window despite the illiquid time of day, and spillovers to other markets were very limited."
Initial signs of the flash crash began just after midnight in the early hours of October 7 when a jump in trading volumes caused the value of the pound to drop sharply versus the US dollar over a period of eight seconds, from 12:07:03 am and 12:07:11 am.
The move caused sterling to sink from 1.26 against the US dollar to 1.2494, with around £252 million of pound-dollar trades and 52 million euro (£45 million) of euro-pound trades on the Reuters platform over the period.
It was followed at 12:07:13 am by the publication of a story by the Financial Times - judged to be negative for the UK currency - stating French president Francois Hollande would make Brexit negotiations tough for Britain.
It was initially thought that the story was a main driver of the flash crash, but BIS said the news report did not provide any new information and was more likely to have "exacerbated existing volatility".
By 12:07:34 am the pound had dropped to 1.20 versus the US dollar, with some prices hitting 1.149 on the Reuters platform at 12:07:41 am, hitting a fresh 31-year-low against the greenback before recovering some ground to trade at 1.24 US dollars later that day.
The report said market dysfunction was "amplified" by a strong demand to sell sterling to hedge options as the UK currency fell.
It also found that stop-loss orders - where retail and institutional investors leave orders on automated computer platforms to sell quickly to limit losses when sterling's value changes - had also helped drive the pound lower.
BIS said currency traders should "fine tune their systems" and take greater care over trading during times of poor liquidity amid fears that another "flash event" could undermine confidence in financial markets and knock the UK economy.
Guy Debelle, chairman of the Markets Committee, said lessons from the flash crash would feed into the FX Global Code, a new set of regulations for currency markets developed by the Foreign Exchange Working Group.