Feeds

Software disaster zone Knight Capital bags $400m lifeline

What really happened when computers at trading firm went nuts

Boost IT visibility and business value

I recently wrote about how a bad round of software testing lost Wall Street trading firm Knight Capital an estimated $440m – enough to almost put the company out of business.

I speculated that Knight could be bailed out if it's allowed to unwind its computer system's unexpected burst of loss-making trades on the stock market - effectively taking a mulligan* on the 45-minute debacle. Turns out that ain’t gonna happen.

Knight was left squirming on the hook by US regulators and subsequently forced to find money to cover the losses from third parties. In return for floating Knight $400m, six other Wall Street firms will be paid a 2 per cent preferred stock dividend and, if they like, be able to convert those preferred shares into enough common stock to own 75 per cent of the company – a pretty sweet deal for a company that was a solid market player before last Wednesday.

Tyler Durden’s blog posts at Zerohedge have been both fast and solid on this story. Here he posts some of the highlights from an interview with Knight CEO Tom Joyce. One of the quotes from Joyce: “We have to do a better job on our testing environment.”

Yeah, I think I’d make that a priority, or at least move it farther up the list. It’s an understatement of such magnitude that I’m at a loss to come up with an apt comparison. Maybe if Napoleon had said, “We need to do a better job of scouting out our enemies” after Waterloo? But I’m drawing a blank right now.

So what happened IT-wise with Knight Capital? Zerohedge links to a Nanex Research blog that looks to have a pretty good handle on the gory details. They believe that Knight was testing to make sure that a new market maker software package (Retail Liquidity Provider – RLP) would integrate with the NYSE live trading system.

(Being a ‘market maker’ simply means that your firm holds a position in a particular stock, and that you’re usually a willing buyer or seller. We can talk about ‘specialists’ vs market makers, but that’s not important in this context.)

In addition to the RLP code, there’s a testing routine that fires off buy and sell orders at RLP in order to ensure that it properly records all of the trades. It’s like a load generator for a commercial application, and it’s used in an isolated lab to simulate live trading.

It looks like that package was mistakenly included in the RLP deployment package, and the whole thing was fired up on Wednesday morning and linked to the NYSE live system. As Nanex eloquently described it:

“...On the morning of August 1st, the Tester is ready to do its job: test market making software. Except this time it's no longer in the lab, it's running on NYSE's live system. And it's about to test any market making software running, not just Knight's. With real orders and real dollars. And it won't tell anyone about it, because that's not its function.”

And the tester continued testing and testing and testing. It bought and sold willy-nilly and kept quiet about it. The Knight IT and trading staff probably didn’t even know that the testing program was running. And since it’s just a testing program, it didn’t keep track of any of its activity – meaning it wasn’t easy for Knight to immediately understand the magnitude of what had happened and the massive losses they’d incurred.

Take a look at the Nanex account of this: it’s short, easily understandable, but damned chilling. While you’re reading it, keep in mind that Knight Capital isn’t a high frequency trading firm or a hedge fund. Their bread and butter is aggregating and executing securities orders for retail brokerages like TD Ameritrade and Scottrade. Knight Capital wasn’t operating at the cutting edge of financial engineering or gimmickry; they’re middlemen who get a very tiny slice of each transaction because they can trade faster and less expensively than their customers can on their own.

Knight Capital wasn’t undone by taking on wild market risk or by being reckless. They were taken down by something entirely different: bad IT practices. There probably isn’t any single party that’s to blame. It’s most likely a combination of bad documentation and poor attention to detail from both Knight and third parties (ISV, integrator, whoever). These factors, and probably some others, combined to make for a bad, bad, morning. ®

* A free shot given to a golfer in an informal game when his or her previous shot was poorly played. What do you mean you don't play golf?

The Power of One Brief: Top reasons to choose HP BladeSystem

More from The Register

next story
Stick a 4K in them: Super high-res TVs are DONE
4,000 pixels is niche now... Don't say we didn't warn you
BBC goes offline in MASSIVE COCKUP: Stephen Fry partly muzzled
Auntie tight-lipped as major outage rolls on
Philip K Dick 'Nazi alternate reality' story to be made into TV series
Amazon Studios, Ridley Scott firm to produce The Man in the High Castle
iPad? More like iFAD: We reveal why Apple fell into IBM's arms
But never fear fanbois, you're still lapping up iPhones, Macs
Bose says today is F*** With Dre Day: Beats sued in patent battle
Music gear giant seeks some of that sweet, sweet Apple pie
There's NOTHING on TV in Europe – American video DOMINATES
Even France's mega subsidies don't stop US content onslaught
You! Pirate! Stop pirating, or we shall admonish you politely. Repeatedly, if necessary
And we shall go about telling people you smell. No, not really
Too many IT conferences to cover? MICROSOFT to the RESCUE!
Yet more word of cuts emerges from Redmond
Joe Average isn't worth $10 a year to Mark Zuckerberg
The Social Network deflates the PC resurgence with mobile-only usage prediction
prev story

Whitepapers

Implementing global e-invoicing with guaranteed legal certainty
Explaining the role local tax compliance plays in successful supply chain management and e-business and how leading global brands are addressing this.
Consolidation: The Foundation for IT Business Transformation
In this whitepaper learn how effective consolidation of IT and business resources can enable multiple, meaningful business benefits.
Application security programs and practises
Follow a few strategies and your organization can gain the full benefits of open source and the cloud without compromising the security of your applications.
How modern custom applications can spur business growth
Learn how to create, deploy and manage custom applications without consuming or expanding the need for scarce, expensive IT resources.
Securing Web Applications Made Simple and Scalable
Learn how automated security testing can provide a simple and scalable way to protect your web applications.