America Has One Foot In The Grave

Dave Cohen / Decline of the Empire

What a sad story we have today. The Wall Street Journal gave us the specifics in Loss Swamps Trading Firm.

Knight Capital Group Inc. scrambled Thursday to shore itself up and reassure panicked customers after disclosing a stunning $440 million loss from a computer-trading glitch.

Knight officials blamed software installed earlier this week for causing the brokerage firm to enter millions of faulty trades in less than an hour on Wednesday morning. The orders roiled trading in almost 150 stocks and left Knight holding losing positions in many shares at the end of Wednesday’s trading session…

“If they don’t get an investor within the next 48 to 72 hours, I think Knight’s going to have trouble surviving,” said David Simon, chief executive of hedge fund Twin Capital Management LLC…

The size and speed of the losses astounded investors and rivals and, skeptics said, served as another reminder of the perils of the superfast nature of stock-market trading. The hit to Knight rivals the current estimated industrywide losses caused by the technical troubles that disrupted Nasdaq OMX Group Inc.’s NDAQ -0.70% debut of Facebook Inc. FB -4.02% shares in May.

For customers, the threat of a collapse of a brokerage has become an all-too-common event. While the circumstances of the situation at Knight are different and still in flux, MF Global Holdings Ltd. and Peregrine Financial Group Inc. left customers in the lurch after tumbling into bankruptcy.

Just as jarring: Knight, a 17-year-old firm, is considered a pillar of the stock market, matching buyers and sellers for some $20 billion in trades a day on the New York Stock Exchange. Knight uses complex computer algorithms to trade swiftly in and out of stocks while retail brokerages rely on the company to execute billions of dollars of trades a year for small retail customers. The firm is also one of the biggest firms to handle trading in exchange-traded funds. While it has humans on hand to do some trading, much of its business is now computerized.

The loss exceeded Knight’s $365 million cash on hand at the end of the second quarter. Most of the trades were made Wednesday between 9:30 a.m. and 10:15 a.m. That would equate to about $10 million a minute.

The computer program that caused the glitch was designed to integrate with a new system being installed Wednesday morning by the New York Stock Exchange, Knight Chief Executive Thomas Joyce said on Bloomberg television on Thursday.

But an error in the Knight software caused a malfunction. By the time engineers could switch it off, millions of trades had gone through…

This story is sad on multiple levels. The least sad part is that Knight Capital Group may not survive. Who gives a damn? I only hope their retail customers are not endangered by Knight’s collapse.

What is the difference between investment on the one hand, and gambling on the other? I know many rip-off artists traders will deny the importance of this distinction, but investment is a longer-term, buy & hold activity. Gambling is basically the opposite. Investment implies commitment. Gambling is based upon having no commitment. The gambler is trying to make money off fluctuations in a stock’s price, and in part he creates the very volatility he is trying to benefit from. Computerized trades take place in microseconds. Let’s reconsider this text with that distinction in mind—

Knight uses complex computer algorithms to trade swiftly in and out of stocks while retail brokerages rely on the company to execute billions of dollars of trades a year for small retail customers. The firm is also one of the biggest firms to handle trading in exchange-traded funds. While it has humans on hand to do some trading, much of its business is now computerized.

Aside from the retail (Mom & Pop) investors, who don’t matter in this vast shell game, that is a pretty fair description of gambling in the stock market. It also tells us why the stock market is rigged.

When the financial sector in a modern economy resorts to gambling and stops investing, that society already has one foot in the grave. Regarding 21st century America, there is hardly anything left to invest in. Facebook? Don’t make me laugh. That’s a joke.

The investor sinks his money into a longer-term project which will pay off over a matter of years, not in a few microseconds. Those carrying out the project, and those financing it, are trying to create real wealth, and thus expect to see returns on their money and effort over the long haul. That’s capitalism’s old story. The new bling-bling is the sad story of Knight Capital Group, which is a mere 17 years old.

This story is also sad because it involves the mindless application of even more stupid, self-defeating technology, as I wrote about in yesterday’s post Stupid, Self-defeating Technology Strikes Again.

While it has humans on hand to do some trading, much of [Knight's] business is now computerized… [the] computer program that caused the glitch was designed to integrate with a new system being installed Wednesday morning by the New York Stock Exchange… an error in the Knight software caused a malfunction. By the time engineers could switch it off, millions of trades had gone through…

Jesus wept.

Knight’s story should stand as object-lesson for humans everywhere. I say “should” in this context because this sad story obviously won’t change a thing in the way business is done. People will say this trading fiasco was caused by a bug in Knight’s software, and since that is a one-time thing, and no doubt this bug was unique to that software, they will dismiss the importance of this tragic episode.

In so doing, they will miss the bigger lessons I’ve discussed today. American already has one foot in the grave. Can death be far behind?

Have a nice weekend. There will be a new Saturday Oil Report tomorrow.

http://www.declineoftheempire.com/2012/08/america-has-one-foot-in-the-grave.html