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Robots run amok?

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Salt Lake City, Utah
Trading Experience: Beginner
Platform: Jigsaw, NinjaTrader8
Favorite Futures: ZB
Posts: 474 since Apr 2016
Thanks: 15 given, 448 received

Robots run amok?

We have clearly entered a new market regime that was marked by severe market volatility last week. Things have calmed down considerably this week, but we are still seeing significant moves. I did considerably well scalping ZN futures last week. I walked away with record profits even after making several significant trading mistakes. What is causing such unprecedented moves? I believe that the robots have finally run amok, and that makes now some of the best opportunities for retail traders.

There are two characteristics of this market that lead me to this conclusion. The first is a significant lack of liquidity. Before this move started it was common to see 3k offered at any level in ZN. At some major points such as before options expiration we were seeing 5k and even 10k's put on the DOM. Last week we were barely seeing 2k, and at some points they would only put up 100 on the inside levels. This is not the first time we've seen this. This is exactly the same behavior we saw during the flash crash in 2010. Some market making algorithms start losing so much money that the operators just turn them off completely, and liquidity dries up.

The second characteristic I see is extremely one sided trades. This is particularly pronounced in treasuries where despite huge flight to safety moves up, the overall trader positioning is short in record numbers. We also saw huge moves as the short volatility trade predictably blew up in everyone's face. This coincides with numerous research firms and quantitative analysis with models predicting significant drops in equities if the 10 year yield gets over 3%.

And this is where I get a little puzzled by the current market action. We've known since August when the market started to price in rate normalization that the Fed was going to raise rates. Absolutely nothing has changed since that time. It was literally only a matter of time that rates would get above 3%, and this isn't unusual by historical standards at all. Yet it's only now that we get to 3% that anyone sees this as a problem? We had a pretty good idea of where rates would be long before this latest rally really took off. Where was all the skeptics 6 months ago? It's not like anything magically changed last week.

What I see is a bunch of robots and quants freaking out over something they should have known would happen half a year ago. What's more is that they all seem to be responding the same way to the chaos. Hence we have huge moves up in volatility, and big short term moves up in treasuries.

And this only brings us back to something that has been discussed on this forum numerous times. Yes there are big advantages to robots. They provide liquidity, and are more consistent than humans. However, I believe we have made a mistake in letting them almost completely take over the market. I'm not just saying this as a retail trader mad at being crowded out by algo's either. I worked at a bank in technology writing execution and risk control systems. I'm somewhat familiar with the robots. I've been there when a "glitch" causes millions in losses. One of my jobs was basically to detect when such things were happening to try and cut the cord. So believe me when I say that there are limitations to this technology. There's nobody sitting there saying "hey this trade seems awfully crowded". Even worse there's not very many people left out there that even remember what trade was like during the last time we had rising rates. That was all long before the robots and quants took over. Not that this rate normalization after such an extended period of low rates can be compared to anything in the past.

My recommendation to wall street is to hire more traders. Bring back prop firms, and find people to develop hardcore trading skills. If things get this crazy when everything is supposedly going well, what do you think is going to happen when we're actually in a crisis? While the programmers are trying to figure out what went wrong with their machine learning algorithms I think there's some real opportunity out there.

Last edited by TWDsje; February 12th, 2018 at 05:00 PM. Reason: Grammar
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