On May 6, "The velocity of the volatility was stunning, beyond anything I had ever seen, with the exception of October of 1987, when I was on the trading floor," said Ted Weisberg, president of Seaport Securities in New York.  "There's a strong parallel between the Black Monday crash and the flash crash," said Michael Wong, an analyst at Morningstar who tracks stock exchanges.   On Oct. 19, 1987, the Dow Jones Industrial Average tumbled more than 20%, and the swoon extended into the following day, before a rebound. Floor traders, working by telephone, dominated the action and computer-generated trading was still in its infancy. Dark pools and high-frequency trading were the stuff of science fiction. Trading reached 600 million shares, according to the SEC.

Fast forward to May 6, 2010: The worst part of the lightning descent lasted roughly 10 minutes and the decline hit 9.8% at its worst. Trades, many executed in milliseconds, reached 19 billion shares.  In both cases, troubles first appeared in the stock futures market, which precipitated a decline in the regular "cash" market. The two created a feedback loop, dragging both markets lower.  Perhaps the most concerning parallel was how professionals abandoned the market. In 1987, some human market-makers on the floor of the exchange stopped providing bids for certain stocks.

Two decades later, in a market dominated by technology, high-speed traders who often provide liquidity for the market, just switched off their computers. Other big players, including fast-trading hedge funds, also pulled out of the market, according to traders and exchange officials.

"Go back to the 1987 crash, every major firm pulled out," said Chris Concannon, a senior partner at Virtu Financial LLC, a New York electronic market making firm, which continued trading during the May 6 turmoil. "In every break you find evidence of major firms withdrawing their buying and selling interest from the market." (2)

Traders were stunned. “We thought a big European bank was about to go under, that this was it,” says a dealer who was on one of the big trading floors at the time. “Everyone got on the phone. Then, traders quickly realised that the falls were due to lots of automated sell orders. At that point we all just wanted to reach for the emergency button and press stop.”  While there have been times in equity markets where some stocks have moved wildly, the afternoon that has become known as the “flash crash” was the first time that the entire US equity market was convulsed by such turmoil.  But 20 minutes later prices had bounced back. Trades that took place during that dramatic slice of the hour where the movement was more than 60 per cent were cancelled. Yet the impact of the flash crash will be felt for a long time to come, not least because it showed that the equity markets do not have such an emergency button, or any way to halt trading when something goes haywire. (3)

“The real shocker is that it was nothing nefarious that caused the crash,” says David Weild, senior adviser to Grant Thornton and former vice-chairman at Nasdaq. “It was acceptable investor behaviour – people trying to put on hedge transactions,” he believes. “The market had a mini-meltdown in an instance when it appears no one was intentionally trying to manipulate the market. It’s disturbing that it does not take a lot to cause these markets to cascade.” (3)

The flash crash confirmed the suspicions of those investors and regulators who had long worried that complicated trading systems, fragmented trading across some 40 different venues, and the enthusiastic embrace of super-fast trading with computers spitting out thousands of buy and sell orders in microseconds, could threaten disaster.

Indeed, the flash crash taps into a debate that has been simmering for years between those who see benefits created by the rapid advance of technology – by lowering barriers to entry for new participants and boosting liquidity for investors who wish to trade – and those who fear it has introduced unknown risks into the system.

The events of May 6 revealed that while getting rid of old-style “specialist” market makers has reduced the cost of trading by narrowing bid-ask spreads, the benefit has come at a cost. Now, no one has an obligation to provide prices for all shares all the time during a trading day, as trading has fragmented across an array of electronic trading venues and traders. The moment the markets grow too risky, many new electronic market makers appear only too willing to head for the exit. (3)