Tuesday, April 15, 2014

Rickards describes High Frequency Trading (HFT) as a form of derivative

In this article in the London Evening Standard, Jim Rickards discusses one of our 3 scenarios we listed as potentially causing major monetary system changes. We mentioned that a derivatives crisis that starts unexpectedly could cause things to change quickly due to it being a crisis condition.

While this seems like the least likely scenario right now, this article looks at it from a somewhat different view. The article is actually a commentary on the new book by Micheal Lewis (Flash Boys) about problems with High Frequency Trading (HFT).

Rickards takes the position that HFT trading can actually work like options because the buy bids can suddenly disappear from the market due to the nature of how these trades are structured. He then goes on to say that this makes them another form of a derivative product. A derivative crisis could be the result that comes very suddenly and unexpectedly.

Since this is one of the 3 events we listed as keeping an eye on, this article is relevant and worth the time to read. It is the scenario we talk least about because there is really no way to predict it or have any sense of timing if it did happen. 

But if a big entity were to get hit with a derivative trade that could not be covered by the counterparty, it could start a chain reaction across the banking system. This would obviously lead to a big crisis and all kinds of likely change. Rickards says only the IMF could handle such a crisis now since the FED and other Central Banks are already over extended from the previous crisis.

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