Exclusive: Waddell is mystery trader in market plunge
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By Herbert Lash and Jonathan Spicer Herbert Lash And Jonathan Spicer Reuters / May 14, 2010
news.yahoo.com
A big mystery seller of futures contracts during the market meltdown last week was not a hedge fund or a high-frequency trader as many have suspected, but money manager Waddell & Reed Financial Inc, according to a document obtained by Reuters.
Waddell on May 6 sold a large order of e-mini contracts during a 20-minute span in which U.S. equities markets plunged, briefly wiping out nearly $1 trillion in market capital, the internal document from Chicago Mercantile Exchange parent CME Group Inc said.
The e-minis are one of the most liquid futures contracts in the world, providing holders exposure to the benchmark Standard & Poor's 500 Index. The contracts can act as a directional indicator for the underlying stock index.
Regulators and exchange officials quickly focused on Waddell's sale of 75,000 e-mini contracts, which the document said "superficially appeared to be anomalous activity."
More than a week after the incident, it was still not clear what impact the unusual trading in the futures contracts had on the broader meltdown in the stock market.
Waddell manages the $22.1 billion Ivy Asset Strategy fund, which is well-known for hedging with equity index futures when manager Mike Avery, who is also chief investment officer at the company, feels uneasy about the market.
The Asset Strategy fund has dropped 2.76 percent this quarter, compared with a 0.80 percent decline in the S&P 500, data from Lipper Inc, a unit of Thomson Reuters Corp show.
Gary Gensler, chairman of the U.S. Commodity Futures Trading Commission, said in congressional testimony on Tuesday that it had found one sale that was responsible for about 9 percent of the volume in e-minis during the sell-off in the U.S. markets.
Gensler said there was no suggestion that the trader, whom he did not identify, did anything wrong in only entering orders to sell. Gensler said data showed that the trades appeared to be part of a bona fide hedging strategy.
WADDELL SAYS WAS HURT TOO
It is unclear what impact the trading in the e-minis had on stock prices during the plunge, but regulators have scrutinized futures trading because the sharp decline in that market preceded the dive in the broader U.S. equities market.
The document said that during the sell-off and subsequent rally, other active traders in e-minis included Jump Trading, Goldman Sachs Group Inc, Interactive Brokers Group Inc, JPMorgan Chase & Co and Citadel Group.
During the 20-minute period, 842,514 contracts in e-minis were traded. The CME document did not provide a break-out of Waddell's trading during that crucial time, but said from 2 p.m. EDT (1800 GMT) to 3 p.m. it traded 75,000 contracts.
Overland Park, Kansas-based Waddell declined to return calls seeking comment. But in a statement, the company said: "Like many market participants, Waddell & Reed was affected negatively by the market activity of May 6."
Waddell said in its statement that it often uses futures trading to "protect fund investors from downside risk," and on May 6 it executed several trading strategies including the use of index futures contracts as part of normal operations.
The notional value of the contracts sold by Waddell was $4.2 billion, according to document. How much Waddell paid for the contracts was not stated, but typically the cost would be far less than their notional value.
The company, which advises and distributes the Ivy Funds, has made a name with good results from its family of mutual funds.
Waddell's shares fell after the Reuters report, and closed down 5.3 percent at $32.25. Volume was 1.28 million shares, more than triple the daily average this year.
Analyst Jason Weyeneth of New York brokerage Sterne Agee said he had not learned anything on Friday to lead him to change his "neutral" rating on Waddell stock.
The CFTC declined to comment.
A CME spokesman, who declined to comment on the document, said the Chicago-based futures exchange operator never discusses customer activity.
"We found no evidence of improper trading activity or erroneous trades by CME Globex customers," said CME spokesman Allan Schoenberg.
Trading in e-minis takes place entirely on the CME's Globex exchange. Hedge funds and high-speed trading firms often use the e-mini in an arbitrage strategy that seeks to capture the change in prices between the futures contract and the S&P 500.
Waddell's contracts were executed at Barclays Plc'sBarclays Capital and later given up to Morgan Stanley, according to the document.
CME said it spoke to representatives from both banks on May 6 and planned to speak to Waddell representatives the following day. The firm oversaw $74.2 billion in assets as of March 31.
Morgan Stanley told CME that it did not have concerns regarding Waddell's activity because it "would typically use equity index futures to hedge macro market risk associated with the substantial long exposure of its clients," the document said.
'QUITE A SHOCK TO THE MARKET'
Gensler said the contracts were sold between 2:32 p.m. and 2:51 p.m., the height of the meltdown.
The market for e-minis on May 6 fell more than 5 percent in a little more than 5 minutes starting at 2:40 p.m. -- the height of the crash, the document said. The e-minis began to recover before stock prices turned higher.
An order the size of the Waddell contract would be a big trade to execute on a normal day, said a trader whose firm is active in the S&P 500 futures market. About 50,000 contracts are typically traded in an hour, the trader said.
"To get rid of 75,000 contracts, that's a lot of trading even if the market is healthy," the trader said. "But when suddenly the market changes and there's not as many bids there to trade with, 75,000 is going to cause quite a shock to the market.
"That's an enormous position for anybody, whether it's a hedge or whether it's a trade. It's a big position, no doubt about it," the trader said.
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Waddell & Reed: Didn’t mean to play in last week’s market plunge
Kansas City Business Journal Friday, May 14, 2010, 2:15pm CDT
Waddell & Reed Financial Inc. stands in the center of a firestorm Friday, after Reuters discovered documents showing Waddell & Reed was involved in trades that contributed to the market crash on May 6.
The Dow Jones Industrial Average lost nearly 1,000 points — almost 10 percent of its total value — in a 20-minute span on May 6, eliminating about $1 trillion in market capital. The plunge left companies such as Lenexa-based BATS Exchange, the nation’s third-largest securities exchange, trying to figure out what went wrong.
During a Congressional hearing about the matter Tuesday, Gary Gensler, chairman of the Commodity Futures Trading Commission, said an undisclosed futures trader accounted for about 9 percent of the trading volume in e-mini contracts, some of the most actively traded stock-index future contracts. He said all of this particular trader’s activities involved sell orders. Most of the other 250 traders who were active during that period were buying and selling.
Reuters reporters Herbert Lash and Jonathan Spicer discovered an internal document from CME Group Inc. showing that Overland Park-based Waddell & Reed sold 75,000 e-mini contracts during that span. That’s about 11 percent of the 842,514 e-mini contracts traded during the 20-minute crash.
Waddell said Friday that it had no intent to cause disruptions in the market and that the trades were part of the normal operation of its flexible portfolio funds.
“Such trades often are executed in response to market activity, and are undertaken to protect fund investors from downside risk,” Waddell said in a written statement. “We use futures trading as part of this strategy, broadly known as hedging. This is a long-standing and well-monitored practice in certain of our investment portfolios.”
Waddell & Reed said that it had executed trades of this size previously and that executives at CME Group have been quoted describing Waddell as a “bona fide hedger” and not someone intending to disrupt the markets.
“Further, CME noted that they identified no trading activity that contributed to the break in the equity market during this period,” Waddell said. “Like many market participants, Waddell & Reed was affected negatively by the market activity of May 6.”
Read more: Kansas City Business Journal: Waddell & Reed: Didn’t mean to play in last week’s market plunge |
