Lessons from the Pros

India Markets

It’s Their Playground

One thing that is universally true about the financial markets worldwide is that they are set up for the large institutional traders to benefit. Often this benefit is at the detriment of the individual investor or retail trader. Such an example happened on Friday, October 5th when a trader supposedly made a mistake when entering an order for an institutional client.  The error lead to what is being called a “flash crash” that pushed the Nifty down 900 points in mere seconds.  This was not a typical “flash crash.”  A “flash crash” occurs when there is a large drop in the prices of securities and also the indexes usually due to an algorithmic trading program functioning improperly.  In this case, the error was human caused, not computerized.

Emkay Global, the broker believed to be the cause of the crash has reportedly lost 51 crore due to the erroneous trading.  The ANMI (Association of National Exchanges Members of India) may ask brokers who benefitted from the trades to unwind those bad trades and return the lost shares to Emkay.  Emkay has lost its ability to trade on the NSE until the matter has been investigated.  While they may recover some of the money lost from Friday’s trading, what happens to the crores of rupees that individual traders and investors potentially lost?  As far as I can see, there had been no discussion of reconciliation for their losses.

There are supposed to be circuit breakers that shut down trading when the indexes lose a certain percentage from the previous close.  The crash and recovery on that Friday should have triggered the breakers long before they actually did.  This shows weakness in the system set up to protect the capital markets.  So what are the exchanges and regulators doing to protect the individual investor?  NSE and BSE recently released a list of stocks that investors should use caution with when trading.  This was in response to an order from the Securities and Exchange Board of India, (SEBI), to help protect individuals who may try to trade or invest in these illiquid stocks.  The NSE identified 300 such stocks out of their 1600 listed companies while the BSE listed 2,135 of their 5000 listed companies.  Interestingly enough, Emkay Capital was one of those stocks.  These stocks should be avoided due to their low trading volume.  Without volume, it may be possible to enter a position but nearly impossible to exit safely.

The markets were created and designed for the use of professional and institutional trading firms.  They were only opened up to individuals after lawmakers found some abuses by those market participants at the expense of individual investors.  The professionals would rather not have you involved and do their best to make sure exchange trading rules favor them.  So the responsibility of protecting your capital really comes down to you, the individual.  As I have written about before, we can control our potential losses in the markets with proper education and execution on the trading platform.  Unfortunately, the algos are here for now and the large firms are still taking money from unknowing, uneducated market participants.  We may not be able to predict or do much to protect our capital from an odd event like that on October 5th.

So we must make sure we practice proper risk management and grow our capital in a safe manner.  As the saying goes, “It is their playground.  They are just letting us play on it.   We have to play with the rules they set.”

DISCLAIMER This newsletter is written for educational purposes only. By no means do any of its contents recommend, advocate or urge the buying, selling or holding of any financial instrument whatsoever. Trading and Investing involves high levels of risk. The author expresses personal opinions and will not assume any responsibility whatsoever for the actions of the reader. The author may or may not have positions in Financial Instruments discussed in this newsletter. Future results can be dramatically different from the opinions expressed herein. Past performance does not guarantee future results. Reprints allowed for private reading only, for all else, please obtain permission.

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