Four minutes of hectic high volume trading sheared $4 off the price of oil late Monday and left traders and U.S. regulators hunting for the cause of one of the fastest and most furious energy market routs in recent years.
In the absence of any major headline news that could have explained the drop, which hit both international benchmark Brent crude and U.S. oil futures, traders and analysts speculated it may have been caused by an incorrectly entered trade -- a "fat finger" error -- or a high frequency computer trading program gone awry.
The White House doused market speculation that it was ready to approve an oil release from the U.S. strategic petroleum reserve (SPR) to bring down prices, although it said the option remains "on the table."
The kind of speedy price decline that hit oil on Monday is more typically associated with unexpected economic news, such as a dismal U.S. unemployment figure or a surprise production boost by OPEC countries. There were no such headlines on Monday.
Federal regulator the Commodity Futures Trading Commission (CFTC) is "looking into" the price drop, said commissioner Scott O'Malia, and has contacted exchange operators the CME Group and the IntercontinentalExchange Inc.
"Our people are aware of it," said O'Malia. "They are "going to get to the bottom of it."
ICE's Front-month November Brent crude, which had opened at $116.67 a barrel, at one point fell by as much as $5.17 a barrel to $111.50. During the three-minute period between 1:52 p.m. and 1:55 p.m. EDT alone (1752-1755 GMT), Brent prices dropped by $3.60.
U.S. crude futures also fell sharply. In the minute before that plunge, 151 lots of front-month October U.S. crude exchanged hands on the New York Mercantile Exchange. Three minutes later, volume spiked nearly a hundredfold, to above 13,000 lots in one minute.
European benchmark Brent began to recover after its sharp drop, and later settled down $2.87 on the day at $113.79 a barrel. U.S. crude settled at $96.62 a barrel, up from earlier lows of $94.65.
"All of a sudden it just dropped, then it snapped right back up. Then you had 50- to 75-cent moves, so you saw guys just stay away from it. From there it was just a barrage of rumors," said John Woods, president of JJ Woods & Associates, a brokerage on the NYMEX floor.
"Everybody was asking the same thing: What the hell is going on here?"
Some analysts say that rapid and sharp price moves over a very short period of time and with no clear cause are becoming more frequent.
On May 5, 2011, U.S. oil futures fell by as much as $13 a barrel and settled down by around $10 a barrel. Many traders then blamed waves of computer-driven selling by banks and hedge funds.
The CME Group, which operated the New York Mercantile Exchange, said it had not experienced any technical failures and did not plan to cancel any oil market trades from Monday's drop.
It said NYMEX energy markets including crude, gasoline and heating oil futures "saw a coordinated selloff of a prolonged duration of 30 minutes" beginning around 1:50 p.m. in New York.
The Intercontinental Exchange, whose ICE platform is the biggest venue for trading Brent Futures, declined comment.
Traders and energy analysts speculated about a "fat finger" incident on Monday, but Reuters was not able to identify any potential culprit.
Another conjecture was a selloff led by algorithms programmed into super-computers at banks and hedge funds. That could have been triggered by a breach in a technical price threshold, and exacerbated by low trading volume. Many traders were away on Monday to celebrate Rosh Hashanah.
One veteran energy market risk manager said Monday's abrupt crude price fall was "the fastest move I've ever seen."
"I think it was too fast to be anything but HFT (high-frequency trading) or other algos (algorithmic traders)," said John Gretzinger at INTL-FCStone in Kansas City.
HIGH FREQUENCY TRADING
Regulators have been closely examining high-frequency trading -- which accounts for roughly half of both U.S. equity volume and commodity futures trading -- after high-profile glitches roiled markets in the past.
The May 2010 "flash crash" briefly wiped out $1 trillion in paper value from the stock market. Regulators have said the algorithms behind rapid-fire trading were a factor but did not cause the crash.
More recently, in August, a software glitch at Knight Capital Group flooded the New York Stock Exchange with unintended orders for dozens of stocks, boosting some shares by more than 100 percent and leaving the company with a crippling $440 million loss. The firm was forced to seek a financing deal to stay afloat.
Proponents say high-frequency trading, which often relies on tiny price imbalances to make fractions of a cent on each trade, contributes liquidity and helps markets. Critics say it puts other investors at a disadvantage.
"When we see prices and volumes move this fast and this dramatically, the job of CFTC surveillance staff becomes even more important," Bart Chilton, another commissioner at the CFTC, said in an email on Monday.
The CFTC and the Securities and Exchange Commission have said they are committed to regulating the controversial trading technique, but progress has been slow.
An industry panel convened by the SEC last February made 14 recommendations, including fees on high-frequency traders and trading pauses during rapid price moves.
The SEC has worked with the exchanges to expand circuit breakers for stocks and has adopted a "limit up-limit down" plan designed to protect against market volatility by preventing trades from occurring outside of a specific price band.
But the agency has not made more dramatic moves to rein in high-frequency traders.
The CFTC's Technology Advisory Committee, an industry group convened by the regulator, presented a working definition of high-frequency trading in June.
"We want to understand the way these things trade. Defining them and measuring their performance and behavior in our markets is something that we need to understand better," O'Malia said.
It was not clear whether or how high-frequency trading contributed to Monday's rout in oil prices, he added.
Copyright Thomson Reuters 2012