When machines run markets

As the business news scrambles for one liners to justify daily market swings, the largely unspoken truth is that algo trading computers are today running public markets like slot machines. More than 70% of daily volume can be attributed to various types of “high frequency” or automated trading.

Most days ‘risk on’ or ‘risk off’ is started by a major move in world currency markets which topple the algos into a series of cascading trades. Here is today’s version: the Yen broke out violently against the US dollar first thing this morning, moving through a level not seen since World War 2. No one is quite sure why the Yen broke out this morning, it has done so several times this year, sometimes with a rationale–like last March when tsunami rescue funds were being repatriated. Other times for no apparent reason. Some have said today’s swing is perhaps a fear that the US may launch into another round of QE as the world economy continues its decline which might weaken the greenback. (Your guess is pretty much as good as any in this mess).

But however justified or silly the initial impetus, in today’s markets the knock off effects are always highly integrated and far-swinging: algo programs interpret a weakening US dollar as a “risk-on” signal and low volume trades–300 times faster than eyes can blink–move through world markets in that now familiar teeter totter of US dollar down–risk assets up across the globe. As prices break out, fund managers, afraid to miss out, jump to piggy-back the move, frequently throwing caution and fundamental assessments to the wind. The humans race to chase the machines. All of this may sound fun and fast. But in reality is there is increasingly no common sense or economic reality in most daily swings.

As we have seen for the past couple of years, all hell literally breaks loose each day, often from one extreme direction to the other and all in a day’s trading. Wacky moves at unattractively high prices, are the reason that professional and individual investors largely left stock markets over the past few years and have not come back. Literally trillions of dollars are now sitting on the sidelines in cash earning next to nothing but preferring the relative safety to a rigged system almost certainly doomed to an ongoing crash.

Until prices come back to the reality of our economic future, investors will not find value worth buying. And until we the people insist on controlling reckless transactions in our public markets, the computers will be left to wreck madness and mayhem, tossing fractions of pennies at profit-focused exchanges who long ago lost their purpose as utilities in support of the real economy.

We now return you to the mainstream message: Francisco Blanch, BofA Merrill Lynch Global Research says that markets are rallying on high hopes for a European fix this weekend centered on a plan to recapitalize the banking sector. Hopes that are likely to be disappointed once again.