UK trader in fraud arrest over US 'flash crash'

http://www.bbc.com/news/business-32406056

by goodcanadian • 11 years ago

56 73 11 years ago

bbc.com

fennecfoxen• 11 years ago

Here are some copies of the complaints from our friends at the WSJ:

http://online.wsj.com/public/resources/documents/SaraoDOJ04-... (DOJ complaint)

http://online.wsj.com/public/resources/documents/saraoCFTC04... (CFTC complaint)

bobcostas55• 11 years ago

Reading through these it's fairly obvious that Sarao's layering was manipulative and illegal (it boggles the mind that they only caught up with him now), but blaming him for the flash crash is ridiculous over-reach.

icu4• 11 years ago

Another factor to consider is Sarao's internet speed limitations. It seems that news outlets are reporting that Sarao "worked out of his house in London"... well I lived in that part of London and in 2012 it was hard enough getting anything near 60 Mb/s downstream, 10 Mb/s upstream and 15ms ping, so how the heck could he run a HFT operation?

Even if we consider the possibility of co-location it costs millions for this sort of access, and the capitalisation of his firm looks like it is sub £20mil between 2010 and 2011.

I just can't see how this adds up.

lmg643• 11 years ago

The criminal complaint states that the trader was using an excel spreadsheet trading product, from a vendor, that was specifically augmented with order types that would automatically place orders for him at price points away from the market.

Does anyone know what vendor he was using to build this product?

cheatdeath2• 11 years ago

Probably something like Stellar (Stellar Trading Systems) or TT (Trading Technologies XTrader).

cheatdeath2• 11 years ago

He paid a company called Edge (http://edgefinite.com/) to extend the functionality of TT (https://www.tradingtechnologies.com/products/trading-analyti...).

Page 49 of full CFTC document - https://www.dropbox.com/s/ego1blhnylgs7sx/Appendix.pdf

"I asked Edge to design 3 more functions specifically to help try and hide my orders from these people. I do not know if this can be described as HFT, to me it is just giving me the ability to have some extra functions that my base trading software (TT) does not give me..."

joshstrange• 11 years ago

Ok, maybe I'm horribly misinformed but I thought this was commonplace on wall street (trying to trick other algorithms and the like). Are we really going after this guy because he is just a guy and not some massive corporation? I mean it wouldn't be the first time the single person doing something is made an example of while corporations do it without repercussions but surely I'm missing something here...

Edit: ok this article (posted in new right now) http://www.businessinsider.com/what-is-spoofing-the-market-2... seems to have a lot more information. Relevant bit:

The tactic [Spoofing] was outlawed in the 2010 Dodd-Frank regulation, but, as with other forms of fraud, it's hard to prove the trader's intent – in this case, the trader's intent to cancel the order. Prosecutors must prove the trader didn't change his or her mind for legitimate reasons after placing the trade.

Edit 2: Ok looks like regulators are just now starting to really go after these people. Who wants to take bets on the chance that ANY major financial orgs get in trouble (and no, fines that are pennies on the dollar for what they are making is not "trouble", I want to see people in jail seeing how we are trying to extradite this UK guy.)

steamy2• 11 years ago

It's the same story like that of Bernie Madoff and also the same morale. You're free to do whatever you want hustling & bustling screwing people over but if you dare to mess up with the wrong people, you're toast and you will be made an example of for everyone to see.

arca_vorago• 11 years ago

Not sure why you got downvoted with no reasoning, but you're right. I would bet my left testes that major money corps of the Three Sister Cities do the exact same thing but just make it less obvious and do it over longer periods of time. The whole things is rigged anyway, and the SEC is a joke.

Also, there are plenty of middle-men scapegoats to be sacrificed if the big boys get caught too. (see, gold manipulation scandal, libor, etc).

tptacek9• 11 years ago

It is unlawful to place orders deliberately intended never to trade. Obviously, every market maker has to place and cancel orders, but every one of those orders is submitted with the knowledge that they might trade, an eventuality the market-maker has to be prepared for.

In a layering spoofing scenario, the trader is deliberately structuring their orders to make it virtually impossible for them to trade. The point of doing that is to create the illusion of volume; the orders the spoofer places with actual trading intent will probably be in the opposite direction of their giant spoofing orders.

Obviously, lots of legitimate trading strategies rely on forms of deception (most often: "These piecemeal trades are not part of a concerted effort to buy a zillion shares, I promise"). Where the line is seemingly drawn is, your orders can conceal information from the market, but they can't directly inject fake information.

Here's a detailed SEC complaint, which accompanied a settlement, that does a decent job laying out how regulators establish someone's submitting orders with an intent to deceive rather than trade:

http://www.sec.gov/litigation/complaints/2015/comp-pr2015-4....

minimax• 11 years ago

I think what he will claim is that his orders were not "virtually impossible" to trade with. The so-called "layer" orders were in the book for a reasonable length of time. His trading program was modifying the orders to keep them a few ticks from the inside, but they could have been hit by any contra side order that was big enough to trade through all of the orders in front of his. It's not unheard of for big trades to sweep multiple price levels in the ES book.

They will have to prove that his intent was to use the spoof orders to signal other participants to trade and I'm not sure that is as much of a slam dunk as all these news articles are claiming. I.e. there is no email where he just comes right out and says "these here are the spoof orders meant to move the price etc etc etc."

Someone12342• 11 years ago

akhatri_aus's post has been incorrectly flagged as a dupe. If a mod is reading they may wish to look into that.

MarcScott2• 11 years ago

Check the comment history. Dupe is from another thread.

Someone12342• 11 years ago

Fair point. It is a thread about the same topic (one that didn't receive a lot of activity). So I don't really blame them for trying to post it here.

mike_hearn2• 11 years ago

This sounds like it may be possible only because of the exceptionally weak US-UK extradition treaty, which gives the USA unusually strong powers to grab people from the UK without any equivalent ability for the UK to extradite people from the USA. The one-sidednesss of this agreement has caused political problems before as it is seem as epitomising the slavishness of British politicians to Washington.

If "spoofing" was really only outlawed in the Dodd Frank act then it seems likely that most countries wouldn't have any laws against it, and an extradition would fail on the grounds that what Sarao is accused of would not be a crime in his country of origin.

I'm sure the UK Government will love the idea of sending a trader to the dogs in America regardless of whether or not this is actually illegal in the UK itself, just because it's election time and like all politicos everywhere they want to be seen as whacking financial types. But it seems to lead to a bad precedent. If trading strategies can be simply made illegal in a law so large even the people who voted on it didn't read it, then how can anyone really know if their trades are illegal or not?

tptacek9• 11 years ago

The last time this was hashed out on HN, all the available documentation seemed to establish that the UK-US extradition treaty had recently changed --- to correct an imbalance that had historically favored the UK, and is now more equitable.

learnstats23• 11 years ago

Equitable? Why does it matter if this is equitable?

In practice, UK citizens now have to obey US law or risk being extradited - in this case, for conducting their work legally in their home country.

This is not right.

mike_hearn2• 11 years ago

Could you link to that discussion? The article here suggests otherwise:

https://en.wikipedia.org/wiki/UK%E2%80%93US_extradition_trea...

beagle32• 11 years ago

If "spoofing" was really only outlawed in the Dodd Frank act then it seems likely that most countries wouldn't have any laws against it, and an extradition would fail on the grounds that what Sarao is accused of would not be a crime in his country of origin.

"spoofing" has generally been outlawed since forever - at the very least since 1934. Dodd Frank may have defined spoofing better, but "intent to execute" (which, in imprecise language is the complement of "spoofing") has been a requirement for much much longer, and in every regulated exchange in just about any country.

But even if it was only outlawed in 2010 and only in the US - Sarao was trading the CME -- that's the Chicago Mercantile Exchange, thereby putting himself in the jurisdiction of US trading laws.

fineman3• 11 years ago

We can't legislate that you don't spoof - it'll simply be an arms race. If you want to participate in a market without spoofers, simply require a deposit for offers cancelled within a certain period of time.

The problem is that the market is only capable of defending against what it is used to dealing with, if we "ban" scammers we end up with a market susceptible to scammers. If we "allow" everything we'll end up with markets that can withstand a sybil attacks. As another poster said, the "correct" metric is accepted offers, not outstanding offers. ("Correct" is complex of course...)

It's like passing laws making web-scraping for email addresses into hacking. It feels like it'll make us safer, but because "only criminals have guns" it just ends up shooting a few people in the foot and weakening us overall against actual threats.

tptacek9• 11 years ago

From the actual complaints, it's not clear to me that Nav Sarao is being charged with helping cause the Flash Crash, but rather for flagrantly executing a spoofing strategy during the Flash Crash.

nissimk2• 11 years ago

From the complaint:

35. According to Consulting Group analysts and the expert, that day, SARAO was active in the E-Mini market on the CME, and contributed to the orderbook imbalance that the CFTC and the Securities Exchange Commission have concluded, in a published report, was a cause, among other factors, of the Flash Crash. Among other activity, SARAO used the dynamic layering technique extensively.

...

36. SARAO's use of the dynamic layering technique was particularly intense in the hours leading up to the Flash Crash. SARAO used the technique continuously from 11:17 a.m. until 1:40 p.m.

tptacek9• 11 years ago

Huh. And, from a much earlier source:

High frequency trading did not cause the flash crash according to a joint report by the CFTC and the SEC. The staffs of the two agencies concluded that a large fundamental trader's order to quickly sell 75,000 CME S&P 500 mini contracts (with a notional value of over $4 billion) created a "liquidity crisis" in the CME E-Mini futures that caused the price to drop more than 5% in four-and-one-half minutes during the most intense part of the episode.

nissimk2• 11 years ago

Zerohedge gloating:

http://www.zerohedge.com/news/2015-04-21/step-step-guide-how...

Is there a difference between Layering/Spoofing and "quote stuffing?" I thought quote stuffing was a technique intended to overwhelm analytics software with volume of ticks rather than manipulate interpretation of current supply/demand dynamics. I suppose they are variations on the same theme.

tptacek9• 11 years ago

I'm not sure I even see how layering and "quote stuffing" are related. Here's what Zero Hedge says:

In other words, 5 years after Zero Hedge first explained precisely what happened on May 6, 2010, the CFTC finally admits that the flash crash was not due to Waddell & Reed, but due to HFTs and quote stuffing.

That doesn't sound true at all. The point of the layering strategy is entering huge orders (not lots of little ones) that can't trade, and that's what SEC/CFTC said years ago as well. Immediately and automatically canceling the orders isn't required for layering to work; the layered orders are several price levels away from the clearing price. The point is to sustainably convince market makers of a change in the market's direction, and then profit from its correction.

As I understand it, the point of "quote stuffing" is literally to disrupt the market; it's akin to DDoSing the exchange and profiting from the change in behavior.

It's tricky, however, to nail this down, because the term "quote stuffing" was invented by people examining trading artifact data to explain anomalous graphs; the effect and even intent of "stuffing" is all supposition, and I guess the term can mean whatever Zero Hedge wants it to mean.

kasey_junk9• 11 years ago

Layering does not have to be done with huge orders, lots of little orders work fine as well, as long as you can cancel them quickly (in some ways that is better because on some exchanges you get fills before public feeds).

Other than that I completely agree with you. Some people used quote stuffing to mean a DDoS style attack with orders (which if it ever happened was never wide spread and is trivial to prevent on the exchange side). Others do use the term for spoofing or layering.

1971genocide3• 11 years ago

Wait. So the apparent "crime" this person committed is the literal definition of playing bluff.

How is that even a crime ??

It seems the financial system is screwed up if someone playing bluff can crash it.

bbcbasic3• 11 years ago

Every one of us has a vested interest in stable financial markets.

I am for any law that helps make financial markets serve businesses and society and not high-stake casino players.

We need laws like this because of the endless supply of greedy assholes who want to game the system. This extends to other areas like systematic tax avoidance used by rich individuals and large corporations.

1971genocide3• 11 years ago

Wait.

So you are saying to solve the problem of rich individuals and large corporations from using tax loopholes, we need to implement more laws ?

Do you seriously think that solution will work ? When was the last time you though looking at shitty code "hey ! do you know how to solve the problems in this shitty code, write more shitty code !"

I do not think the problem is as complicated as it is made out to be. The tax code is already freaking huge ! no human nor even the people making them can read all of it.

Every time you try to "fix" the problem by introducing more laws you make it easier for rich ppl to find new loopholes.

Its the same thing with MPAA trying to stop ppl from torrenting, or ISPs trying to block websites.

padmanabhan01• 11 years ago

Seems like an open glaring flaw in the trading systems if it can be manipulated in such ways. Why not focus on fixing such flaws instead of legislating against such trades?

So, the law says it's legal to place order and then change one's mind and cancel it, but is not legal to place order with the intent to cancel later? Seriously?

bpodgursky• 11 years ago

Seriously. It seems like there are many very easy technical fix the markets could implement --

- hard-cap the number of cancellations a trader can order

- penalize traders if they have too many cancelled orders (delay further transactions)

- add a cost to cancellation

Why does this require police action? Is the exchange just using the police as a bulldog to avoid having to implement technical fixes for these problems?

phdp• 11 years ago

This would most likely have the effect of widening the bid/ask spread. Market makers wouldn't be able to react to changing conditions in the marketplace as quickly, and they would therefore set bid lower/ask higher than they would in a friction-free market.

kasey_junk9• 11 years ago

Most of those do exist on exchanges. The mechanics usually involve a fee attached with your fill ratio (ie the number of orders/number that actually trade).

The thing about spoofing is that it doesn't require tons of cancels. Done right it falls well within the bounds of normal trading ratios.

itchyouch• 11 years ago

In regards to the law, one is the normal behavior of market makers submitting their quotes, then changing the prices when the market moves.

The latter would constantly chase orders with cancels with only microseconds in-between them.

The best firms can respond to a tick in under 10 microseconds, so bad behavior really can't stay on the book for more than 10s of microseconds.

icu4• 11 years ago

Nanex recommended the following to fix the problem back in 2010:

1. Quote and trade data must be time stamped by the exchanges at the time it is generated. This will ensure delays can be detected by everyone.

Reasoning: Changing the procedure to time stamp at the time a quote or trade is generated is a near trivial exercise. It probably comes as a surprise to many that time stamping isn't done that way now.

2. Quote-stuffing should be banned.

Reasoning: It is a manipulative device designed to overload the quotation system. Quote and trade dissemination (data feed) is a finite resource, and should be treated as such.

3. Add a simple 50 millisecond quote expiration rule: a quote must remain active until it is executed or 50ms elapses. If the quote is part of the NBBO, it may be improved (higher bid or lower offer price) at any time without waiting for the expiration period.

Reasoning: The exchanges must protect the integrity of the National Best Bid/Offer system. What is the point of having a National Best Bid/Offer, if not everyone in your nation (apologies to Alaska/Hawaii) can reasonably execute a trade against it? 50ms is approximately the time it takes light and electronic communication to travel from New York to California and back. It is impossible to transmit information any faster. This rule would not limit quote/trade rates. So long as trades are executing, quotes can update thousands of times a second. Only a small percentage of quotes today would be affected and the potential for catastrophically high rates would be eliminated.

Source: http://www.nanex.net/20100506/FlashCrashAnalysis_CompleteTex...

My 2 cents... the CFTC/SEC/DOJ have suffered too much embarrassment to ever adopt these sensible recommendations. Sadly I think we'll need to suffer a few more flash crashes before something is done.

kasey_junk9• 11 years ago

1. Quote and trade data must be time stamped by the exchanges at the time it is generated. This will ensure delays can be detected by everyone.

Quotes and trades are typically generated on different systems. There are CAP ramifications for implementing this that may be much worse than the fix.

2. Quote-stuffing should be banned.

If you mean quote stuffing as DDoS, this is banned and is trivially prevented by the exchange. If you mean quote stuffing as in layering, that is illegal and is not trivially prevented.

3. Add a simple 50 millisecond quote expiration rule: a quote must remain active until it is executed or 50ms elapses.

This may or may not have CAP implications. I'm curious why 50 ms is chosen? Click traders won't be able to respond to this (and you've already mentioned Alaska/Hawaii) so it won't be "everyone" in any case.

Finally what does the NBBO have to do with CME trades? These were futures contracts that have no legal requirements with regard to the NBBO. They do of course have a correlation with the NBBO just like equities exchanges in Europe and Asia do. Do you intend to regulate the venues globally?

nostromo2• 11 years ago

I'm amazed that "spoofing" is illegal.

If your high frequency trading algorithm is so dumb that it can be tricked by an order that is then canceled, you deserve to lose money.

Anyone doing actual analysis of companies and trading accordingly would be completely unaffected by a spoofed order.

kasey_junk9• 11 years ago

What sort of analysis are you suggesting? Because common analysis of supply and demand for instance is very much affected by a spoofed orders. If an exchange says that 10000 people want to sell at X and 2 want to sell at X-Y that is a pretty good mechanism for price discovery (something we want the markets to enable). That means nothing in the face of rampant spoofing. You might as well get rid of public price feeds at that point.

I think that there is an argument that spoofing should be legal, but we would need to de-anonymize the trades so that you could develop some digital analog for reputation. That way if I see an order from a known spoofer, I can discount it.

NickNameNick• 11 years ago

He's arguing that people should be trading based on an assessment of the actual value of the assets behind the stock, rather than the price that other people are trading the stock at.

nostromo2• 11 years ago

You can still gauge supply and demand -- but you would do so using actual trades, and not unfulfilled orders. This is how pricing works in most markets, by analyzing transactions, not offers.

It seems to me that a law that hinges on proving the intent of the trader seems destined for failure. It looks like this guy got caught by his incriminating emails and not based on his actual trading.

I like your idea of de-anonymized trades. Perhaps it could be something like the blockchain ledger.

arthurcolle• 11 years ago

How was he able to single handedly build up the volume necessary to affect what is literally the most highly traded futures contract?

I imagine he wrote some awesome C++ code plugged into MetaTrader or TradeStation, but certainly they have checks in place to ensure that he can't just place tons of orders that fake the volume of a whale without having lots of proxy servers that also place orders (which would also require proxy accounts). If so, wouldn't he have to have multiple accounts with his broker (I assume Interactive Brokers, given they have the only reasonable rates of all the retail brokerage firms).

Can someone shed some light? I know a little about finance and I'm genuinely curious how some random guy could possibly pull this off without some complicity with his broker.

UK trader in fraud arrest over US 'flash crash'

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