Tomorrow marks the 10th anniversary of one of the craziest trading days in history. On May 6, 2010, stocks plummeted and traders scrambled to figure out what was going on.

At 2:45:46 PM, there were bids on the New York Stock Exchange (NYSE) that crossed above the National Best Ask Prices in approximately 100 NYSE-listed stocks. That expanded to more than 250 stocks within 2 minutes.

Minutes later that crazy price action led to a massive drop in major-market exchange-traded funds (ETFs)… SPY dropped more than 8% in a matter of minutes, and today I want to show you what may have caused the flash crash of 2010.

My theory is there were large block trades going off, which caused some selling pressure… leading to the massive drop.

 

The Flash Crash Of 2010 Explained

 

Now, the SEC found the sole perpetrator of the massive drop in the market to be Navinder Singh Sarao. He was trading E-mini S&P 500 futures… but he committed a crime. He put in big orders to sell massive blocks of futures contracts at a price just a little bit higher than the best offer.

In theory, his orders wouldn’t get filled, since he wasn’t offering the best price out there. The thing is, Sarao kept updating his orders with the help of an algorithm.

Apparently, Sarao artificially drove down the price of the E-mini futures, which sparked the major selloff across the market. In just a matter of minutes, the market saw nearly $1T worth of value erased. 

Now, Sarao allegedly traded more than 62K E-mini S&P contracts, which had a notional value of more than $3B… and made more than $800K in net profits on the infamous flash crash.

Of course, there are theories out there that indicate Sarao wasn’t the only lone wolf who caused this price action in the market.

One theory is that his orders actually may have triggered other trading algorithms out there, causing firms to sell futures. With so much selling pressure, it overwhelmed buyers… leading to the massive plummet.

 

The Price Action

 

In reality, the action that went down is a lot more complex than that.

Basically, the high-frequency trading (HFT) tried to profit off the discrepancies in the order book. With the NYSE’s bid prices above the offer prices at some exchanges, the trading algorithms would try to profit off this by sending purchase orders to other exchanges, while placing sell orders on the NYSE.

During a short time frame (just minutes), there were trade executions going off from the NYSE for many stocks, which were actually below the national best bid. If you think about it, why would anyone want to sell stocks below the best bid price?

Who really knows.

But the technology behind this was the culprit, in my opinion. After the algorithms picked up on the price drops, a feedback loop may have been created… leading to panic in the market.

That day may have changed the course of history for many trading firms out there… and hopefully, we don’t see another day like that.

Now, I believe that’s the reason why there are professional traders out there who look for massive block trades because it could potentially impact the market. However, with the advent of dark pools, sometimes these trades go unnoticed. But there may be some important information riddled in the dark pools.

Author: Taylor Conway

Taylor’s Shadow Trader system allows his subscribers to tap into the hidden corners of Wall Street and to capitalize on “dark pool” trading activity. This powerful "follow the big money" strategy uncovers large trade activity that most regular investors have no access to, but that Taylor’s subscribers receive alerts about. Starting with a small account and trading part time, Taylor rapidly built his personal trading millions using his own proprietary trading systems. Sharp, savvy, and highly driven, Taylor looks for profits in any market condition, bull or bear.

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