LONDON (Reuters) - “Flash crashes” in the foreign exchange markets are far more common than is generally believed, a study by trading algorithm provider Pragma said on Thursday.
A study over two years of some of the world’s most traded currency pairs - including the Australian dollar, the euro, the sterling and the Swiss franc - showed no one reason could be identified for the crashes.
“The main takeaway from this study is that these extreme market events happen far more often than we read them about,” David Mechner, chief executive of Pragma told Reuters.
Flash crashes are characterized by a large, fast price move followed by a swift reversal, along with a sudden and significant widening of bid-offer spreads.
In recent years, such incidents have become a common fixture in major electronically traded markets, such as currencies, U.S. Treasury bonds and equities.
They share some common characteristics: trading via central limit order books, a high degree of proprietary trading activity and a greater degree of price discovery, according to the Bank of International Settlements.
Sterling’s short-lived drop of nearly 10 percent last October in Asian trading was one well-known flash crash. So was the 30 percent jump by the Swiss franc against the euro after Switzerland’s central bank abandoned its currency peg in January 2015.
But Pragma’s study found these occurrences have become far more common in foreign exchange markets.
Using statistical analysis of five-minute price episodes, Pragma was able to isolate 69 such incidents, over the time of its study, reflecting the 0.02 percentile of a sample pool of 313,000 events.
Flash crashes have so far been short-lived, with no lasting consequences for financial stability. But regulators warn that if they increase in frequency or if last longer, they could undermine market confidence.
A retreat from market-making activity by global banks under regulatory pressure, the rise of algorithmic trading and automated trading decisions of client orders in thin markets have all contributed in such incidents, the BIS said.
A report from the BIS Markets Committee earlier this year steered clear of discussing the conduct of individual banks or traders in sterling’s flash crash on Oct. 7, pointing instead to a range of structural factors.
"This is going to be more of a reality of the trading environment in the coming years, and this study gives a useful framework for market participants and regulators to analyse changing market participation trends," Pragma's Mechner said.
Reporting by Saikat Chatterjee, editing by Larry King