Before I get stuck into anomalous security prices again, here’s a question for you: why is no one talking about Britain’s refugee crisis as a capital crisis?
The case for the argument goes like this:
• The fracking revolution increases US oil production.
• Increased production leads to less American reliance on Middle East imports.
• Political leaders use new freedom from imports to make friends with questionable allies, arm them, and depose long-time strongmen in Syria and Libya.
• Is runs wild in Middle East and North Africa (Mena) and thousands flee for their life, making their way eventually to Calais.
What do you think? Is it an immigration crisis? Or is it geopolitical crisis born of collapsing oil prices and bad long-term national security strategy?
Here’s a bonus question: how many refugees from Mena regime change are arriving by private jet aeroplane and bringing billions in capital with them, and why aren’t they on the front pages of the paper?
OK. Back to the breakdown of trading in the exchange-traded fund (ETF) market. To add to yesterday’s discussion about ‘quote stuffing’ let me add another idea: the more complex a system becomes the more fragile it is. ETFs can be simple. Or they can be synthetic. By ‘synthetic’ I mean that the performance of the security is tied to a complex mix of other securities, most derivatives, or options and futures.
When continuous, reliable pricing breaks down, it becomes a lot more difficult to price a security whose price is derived from other securities. It’s pretty simple when you think about it. You only have to think about it when liquidity disappears or the market ceases to communicate price signals in a reliable fashion (see also, this week).
Today’s Wall Street Journal describes it as a ‘computer glitch’ that’s preventing mutual funds and ETFs from telling investors the value of their holdings. The real question is whether it’s a bug or a feature. Here’s the Journal’s lowdown:
The problem, stemming from a breakdown early this week at Bank of New York MellonCorp., the largest fund custodian in the world by assets, prompted emergency meetings Wednesday across the industry, people familiar with the situation said.
Directors and executives at some fund sponsors scrambled to manually sort out pricing data and address any legal ramifications of material mispricings, those in which stated asset values differed from the actual figures by 1% or more.
A swath of big money managers and funds was affected, ranging from U.S. money-market mutual funds run by Goldman Sachs Group Inc., exchange-traded funds offered by Guggenheim Partners LLC and mutual funds sold by Federated Investors. Fund-research firm Morningstar Inc. said 796 funds were missing their net asset values on Wednesday. An ETF trades like a stock and is designed to mimic the performance of specific asset classes or indexes.
This could be the proverbial ‘complexity catastrophe’. Or it could just be poor system design. Also, let’s not ignore the possibility that it’s malicious. The more you rely on computer systems – for trading, for transport, for banking, for everything – the more vulnerable you are to deliberate attacks.
Here’s a quotation from a book I just began reading called Future crimes by Mark Goodman: “As I look toward the future, I’m increasingly concerned about the ubiquity of computing in our lives and how our utter dependence on it is leaving us vulnerable in ways that very few of us can even comprehend. The current complexities and interdependencies are great and growing all the time. Yet there are individuals and groups who are rapidly making sense of them and innovating in real time, to the detriment of us all.”
The subtitle of Goodman’s book is Everyone is connected, everyone is vulnerable and what we can do about it. There’s a temptation – because he’s an American with a background in law enforcement – to place him in the camp of people who always see the worst in technology. If we fear it, we accept intrusions into our privacy and limits on our freedom.
But so far – and I’ve only just started the book – I think Goodman’s making a simple and valid point. Criminals are criminals. When you design systems that are vulnerable, enterprising criminals will find a way to take advantage. And that’s to say nothing of vandals and terrorists who want to take us back to the 12th century.
It’s one thing for a hacker to mess with a system in order to cause chaos or extract some profit. But there are, as Alfred Pennyworth once said, some men who just want to watch the world burn. Do you think for a second that the people who just blew up the 2,000-year-old temple of Baal Shamin in Palmyra wouldn’t blow up the City of London if they had a chance? If all it took was some malicious code?
An extreme situation? Unlikely? Improbable? Maybe. Inevitable? Possibly.
But as with yesterday, my point is the same: you can’t look at what’s happened in the last week in the markets and be confident in the veracity or stability of the systems that run the markets.
Category: Economics