What drove Thursday's 'flash crash'?
27 MINUTES AGO By: Colby Smith
Those sleepy Asian investors who are still on holiday must have woke up to quite a shock on Thursday. In just seven minutes, the Japanese yen soared 8 per cent against the Australian dollar, a favourite proxy of the Chinese economy. Versus the Turkish lira, it surged a whopping 10 per cent. The yen also swung against the US dollar, strengthening nearly 4 per cent.
In the aftermath, many have pinned the blame on mounting worries about Chinese growth, on the back of a profit warning from Apple, and a disproportionate number of investors betting the dollar would appreciate versus the yen. But in actuality, the violent gyrations have a lot more to do with thin early-January trading.
To say that fears of slowing growth in China had nothing to do with the "flash crash" would be an overstatement, but to say that it was wholly to blame is equally misleading. Yes, the moves did come on the heels of Apple's warning to shareholders for lower-than-expected first-quarter earnings on account of "the magnitude of the economic deceleration" in emerging markets and "particularly in Greater China". And yes, economic data out of the world's second-largest economy has been less than stellar of late.
But to view demand for a premium technology product like the iPhone as the litmus test for the strength of an economy with a per-capita GDP of roughly $8,800, per the World Bank, is misguided. Perhaps Apple isn't selling as many iPhones in China because people no longer want iPhones. Not only has the number of iPhones sold remained more or less flat since the first quarter of 2017, but Chinese competitors like Huawei and Xiaomi have siphoned off Apple's market share, as this chart from the FT's Yuan Yang shows:
 Others have blamed positioning for the flash crash, noting that investors were "all the wrong way" in going long the dollar versus the yen. According to RBC's Adam Cole, this explanation "is less compelling than first appears". To gauge how investors are positioning, many look at IMM net positioning data provided by the CFTC. This is a helpful metric, and it shows that investors were largely betting that the dollar would strengthen against the yen. However, because it measures positioning in futures, it only tell us about a certain type of investor, says Cole. "Investors that take positioning using futures like momentum traders and CTAs are only one kind of investor," he adds. "They are not representative of the broader market."
Indeed, wider positioning indicators like the correlation of reported FX manager returns to USDJPY and option risk reversals, which measure the premium of puts over calls in the options market, paint a different picture. As Cole's chart below shows, the correlation between manager returns and USDJPY is nearly zero, indicating that investors are not overly long the dollar versus the yen. And option risk reversals, normalised on means and variances, point instead to more short positioning:
 What is more, as Cole points out: the IMM net positioning data are always outdated, and are currently more so than usual because of the holidays. The most recent reading refers to the period up until December 18. USDJPY has collapsed since then, so investors' positioning has probably shifted since then.
So what explains the flash crash? Cole concedes that Apple's revenue announcement was a catalyst simply because the market is worried about Chinese growth, but mostly it had to do with "unusually shallow markets". Local Japanese investors are still on holiday (the stock market is closed through tomorrow), and the moves happened at a time when trading is typically quiet, as GAM's Paul McNamara notes:
Volumes in lira after midnight Istanbul">— Paul McNamara (@M_PaulMcNamara) January 2, 2019
"When you have modest selling and no buyers, you get these big gappy moves," adds Cole.
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