IE 11 is not supported. For an optimal experience visit our site on another browser.

Lone money manager may have sparked plunge

A money manager may have been the mystery seller of futures contracts during the market meltdown last week and not a hedge fund or a high frequency trader, a document shows.
/ Source: Reuters

A big mystery seller of futures contracts during the market meltdown last week was not a hedge fund or a high frequency trader as many have suspected, but money manager Waddell & Reed Financial Inc, according to a document obtained by Reuters.

Waddell sold on May 6 a large order of e-mini contracts during a 20-minute span in which U.S. equities markets plunged, briefly wiping out nearly $1 trillion in market capital, the internal document from Chicago Mercantile Exchange parent CME Group Inc said.

Regulators and exchange officials quickly focused on Waddell's sale of 75,000 e-mini contracts, which the document said "superficially appeared to be anomalous activity."

Gary Gensler, chairman of the U.S. Commodity Futures Trading Commission, said in congressional testimony Tuesday that it had found one sale was responsible for about 9 percent of the volume in e-minis during the sell-off in the U.S. markets.

The e-minis are one of the most liquid futures contracts in the world, providing holders exposure to the benchmark Standard & Poor's 500 Index. The contracts can act as a directional indicator for the underlying stock index.

No suggestion of wrongdoing
Gensler said there was no suggestion that the trader, whom he did not identify, did anything wrong in only entering orders to sell. Gensler said data show that the trades appeared to be part of a bona fide hedging strategy.

It's unclear what impact the trading in the e-minis had on stock prices during the plunge, but regulators have scrutinized futures trading because the sharp decline in that market preceded the dive in the broader U.S. equities market.

The CME document shows that during the sell-off and subsequent rally, other active traders in e-minis included Jump Trading, Goldman Sachs Group Inc , Interactive Brokers Group Inc , JPMorgan Chase & Co and Citadel Group.

During the 20-minute period, 842,514 contracts in e-minis were traded while Waddell from 2 p.m. EDT (1800 GMT) to 3 p.m. traded its contracts, CME said. The CME document did not provide a break-out of Waddell's trading during the crucial 20 minutes.

Overland Park, Kansas-based Waddell declined to return calls seeking comment. But in a statement, the company said: "Like many market participants, Waddell & Reed was affected negatively by the market activity of May 6."

Waddell said in its statement that it often uses futures trading to "protect fund investors from downside risk," and on May 6 it executed several trading strategies including the use of index futures contracts as part of the normal operations of its flexible portfolio funds. The company advises and distributes the Ivy Funds, a family of mutual funds.

Waddell said it believes it was "among more than 250 firms" that traded e-minis during the market sell-off.

Waddell's shares were down almost 6 percent to $32.07 in afternoon trading.

The CFTC declined to comment.

A CME spokesman, who declined to comment on the document, said the Chicago-based futures exchange operator never discusses customer activity.

"We found no evidence of improper trading activity or erroneous trades by CME Globex customers," said CME spokesman Allan Schoenberg.

Trading in e-minis takes place entirely on the CME's Globex exchange. Hedge funds and high-speed trading firms often use the e-mini in an arbitrage strategy that seeks to capture the change in prices between the futures contract and the S&P 500.

Waddell's contracts were executed at Barclays Plc's Barclays Capital and later given up to Morgan Stanley, according to the document.

CME said it spoke to representatives from both banks on May 6 and planned to speak to Waddell representatives the following day. The firm oversaw $74.2 billion in assets as of March 31.

Morgan Stanley told CME that it did not have concerns regarding Waddell's activity because it "would typically use equity index futures to hedge macro market risk associated with the substantial long exposure of its clients," the document said.

Gensler said the contracts were sold between 2:32 p.m. and 2:51 p.m., the height of the meltdown.

The market for e-minis on May 6 fell more than 5 percent in a little more than 5 minutes starting at 2:40 p.m. -- the height of the crash, the document said. The e-minis began to recover before stock prices turned higher.

An order the size of the Waddell contract would be a big trade to execute on a normal day, said a trader whose firm is active in the S&P 500 futures market. About 50,000 contracts are typically traded in an hour, the trader said.

"To get rid of 75,000 contracts, that's a lot of trading even if the market is healthy," the trader said. "But when suddenly the market changes and there's not as many bids there to trade with, 75,000 is going to cause quite a shock to the market.

"That's an enormous position for anybody, whether it's a hedge or whether it's a trade. It's a big position, no doubt about it," the trader said.