Stock Manipulation Probe Launched After Prices Spike
By Edgar Ortega and Jeff Kearns, Bloomberg
20 October 2008
U.S. regulators are investigating whether investors manipulated end-of-day stock prices to avoid being forced by their brokers to sell holdings.
These gaps, which caused the Dow Jones Industrial Average to swing as much as 104 points this month in the final minute of trading, suggest investment firms faced with client redemptions and plunging markets may be gaming the closing-auction system. The discrepancies spurred the Financial Industry Regulatory Authority, which oversees 5,000 brokerages, to look for evidence that investors are improperly swaying prices.
General Electric Co., McDonald’s Corp. and the 28 other Dow companies swung 0.6 percent on average at the close the last two weeks, according to data compiled by Bloomberg. That’s almost eight times greater than the average three months ago. Because of the swings, the New York Stock Exchange plans to distribute information on the closing auction more often to help mitigate volatility.
“Investors don’t ever want to see manipulation because it shows that they are exposed to a different kind of risk than just the fundamentals of companies,” said Peter Henning, a former federal prosecutor and Securities and Exchange Commission lawyer who now teaches at Wayne State University Law School in Detroit. “That hurts trust in the market.”
‘Inflated Price’
The final minute of stock trading is the busiest at U.S. exchanges after the open. The NYSE and Nasdaq Stock Market hold special auctions that intensify 20 minutes before the 4 p.m. close to collect orders and smooth out price changes. Nasdaq tells brokers as frequently as every 5 seconds whether there are more buyers than sellers and broadcasts a likely range for the closing price. At the NYSE, traders known as specialists manage the process.
Brokers are barred from canceling orders as the auction approaches. Still, traders could send small buy orders leading up to the close to prop up the price, only to place a larger sell order in the final trade.
“If you push the price up by buying 100 shares to sell 10,000, the people who get hurt are the ones who buy at an inflated price,” said John Coffee, a securities law professor at Columbia University in New York.
Investors pulled a record $43 billion from hedge funds in September, according to TrimTabs Investment Research. In the week ended Oct. 8, an all-time high of $43.3 billion was removed from stock mutual funds as the Standard & Poor’s 500 Index headed for the steepest weekly drop since the 1930s, data compiled by the Sausalito, California-based firm show.
‘Mark Up the Close’
“If markets are declining, people are going to try to mark up the close,” said Thomas Gira, executive vice president for market regulation at Finra in Washington. “We want to make sure that closing prices are not artificial prices.”
Closing prices are often used as benchmarks to value the collateral a client has set aside to guarantee a loan to invest in stock. They also influence the settlement of options and futures contracts, executive pay and the price of takeovers. Funds that track benchmark stock indexes typically rely on the exchange’s closing auctions to complete trades.
In the past month, the NYSE delayed the close of several stocks to damp price swings and made it easier for floor brokers to submit late orders that narrow imbalances.
Aggregating Liquidity
“The goal is to aggregate as much liquidity as possible to reduce price dislocations,” Joseph Mecane, head of U.S. markets for NYSE Euronext, said in an Oct. 17 interview at the Security Traders Association conference in Boca Raton, Florida. “This is definitely something on our project list.”
The SEC settled a lawsuit last week with San Francisco-based hedge fund MedCap Management & Research LLC for driving up the value of a stock to mask losses in 2006. In May, the NYSE’s regulatory unit opened a review of brokerages’ procedures for handling large orders at the close that could have an “adverse, manipulative effect,” according to a letter sent to firms.
Manipulating prices for anything but small companies that trade infrequently would be too costly and difficult, said Richard Parker, director of institutional trading at New York- based Stanford Group Co.
“It would be a big task to move names that are very liquid, and it would leave fingerprints,” he said. “You could be better off banging your head against the wall.”
Stock hedge funds fell an average 8.6 percent in September, the biggest one-month loss since Chicago-based Hedge Fund Research Inc. began collecting the data in 1990.
Hedge Fund Redemptions
“Hedge funds are liquidating to meet redemptions and some stocks are being sold on a distressed basis to meet margin calls,” Byron Wien, a former Morgan Stanley strategist who now helps oversee $7 billion at Westport, Connecticut-based Pequot Capital Management Inc., wrote in an Oct. 15 report.
Fairfield, Connecticut-based GE, the world’s fifth-biggest company by market value, closed at $21.50 on Oct. 10, up 4.3 percent from the midpoint of the last bid and ask quotes. Before 2008, the stock hadn’t gained or lost that much in a full day of trading since March 2003, according to Bloomberg data.
Also on Oct. 10, Oak Brook, Illinois-based McDonald’s rallied 14 percent in the final hour of trading, climbing from $50.55 to peak at $57.78 as orders poured into the NYSE’s closing auction. Even though the stock was last quoted at about $55.55, the shares fell in the final trade to close at $53.35 for a daily gain of 2.4 percent.
“If you see unstable prices, it makes you not want to invest,” said Barry Savitz, senior managing partner at Stamford, Connecticut-based Greenwich Prime Trading Group, which trades for hedge funds. “That’s not investing, it’s gambling.”
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Stock Manipulation Probe Launched After Prices Spike
By Edgar Ortega and Jeff Kearns, Bloomberg
20 October 2008
U.S. regulators are investigating whether investors manipulated end-of-day stock prices to avoid being forced by their brokers to sell holdings.
These gaps, which caused the Dow Jones Industrial Average to swing as much as 104 points this month in the final minute of trading, suggest investment firms faced with client redemptions and plunging markets may be gaming the closing-auction system. The discrepancies spurred the Financial Industry Regulatory Authority, which oversees 5,000 brokerages, to look for evidence that investors are improperly swaying prices.
General Electric Co., McDonald’s Corp. and the 28 other Dow companies swung 0.6 percent on average at the close the last two weeks, according to data compiled by Bloomberg. That’s almost eight times greater than the average three months ago. Because of the swings, the New York Stock Exchange plans to distribute information on the closing auction more often to help mitigate volatility.
“Investors don’t ever want to see manipulation because it shows that they are exposed to a different kind of risk than just the fundamentals of companies,” said Peter Henning, a former federal prosecutor and Securities and Exchange Commission lawyer who now teaches at Wayne State University Law School in Detroit. “That hurts trust in the market.”
‘Inflated Price’
The final minute of stock trading is the busiest at U.S. exchanges after the open. The NYSE and Nasdaq Stock Market hold special auctions that intensify 20 minutes before the 4 p.m. close to collect orders and smooth out price changes. Nasdaq tells brokers as frequently as every 5 seconds whether there are more buyers than sellers and broadcasts a likely range for the closing price. At the NYSE, traders known as specialists manage the process.
Brokers are barred from canceling orders as the auction approaches. Still, traders could send small buy orders leading up to the close to prop up the price, only to place a larger sell order in the final trade.
“If you push the price up by buying 100 shares to sell 10,000, the people who get hurt are the ones who buy at an inflated price,” said John Coffee, a securities law professor at Columbia University in New York.
Investors pulled a record $43 billion from hedge funds in September, according to TrimTabs Investment Research. In the week ended Oct. 8, an all-time high of $43.3 billion was removed from stock mutual funds as the Standard & Poor’s 500 Index headed for the steepest weekly drop since the 1930s, data compiled by the Sausalito, California-based firm show.
‘Mark Up the Close’
“If markets are declining, people are going to try to mark up the close,” said Thomas Gira, executive vice president for market regulation at Finra in Washington. “We want to make sure that closing prices are not artificial prices.”
Closing prices are often used as benchmarks to value the collateral a client has set aside to guarantee a loan to invest in stock. They also influence the settlement of options and futures contracts, executive pay and the price of takeovers. Funds that track benchmark stock indexes typically rely on the exchange’s closing auctions to complete trades.
In the past month, the NYSE delayed the close of several stocks to damp price swings and made it easier for floor brokers to submit late orders that narrow imbalances.
Aggregating Liquidity
“The goal is to aggregate as much liquidity as possible to reduce price dislocations,” Joseph Mecane, head of U.S. markets for NYSE Euronext, said in an Oct. 17 interview at the Security Traders Association conference in Boca Raton, Florida. “This is definitely something on our project list.”
The SEC settled a lawsuit last week with San Francisco-based hedge fund MedCap Management & Research LLC for driving up the value of a stock to mask losses in 2006. In May, the NYSE’s regulatory unit opened a review of brokerages’ procedures for handling large orders at the close that could have an “adverse, manipulative effect,” according to a letter sent to firms.
Manipulating prices for anything but small companies that trade infrequently would be too costly and difficult, said Richard Parker, director of institutional trading at New York- based Stanford Group Co.
“It would be a big task to move names that are very liquid, and it would leave fingerprints,” he said. “You could be better off banging your head against the wall.”
Stock hedge funds fell an average 8.6 percent in September, the biggest one-month loss since Chicago-based Hedge Fund Research Inc. began collecting the data in 1990.
Hedge Fund Redemptions
“Hedge funds are liquidating to meet redemptions and some stocks are being sold on a distressed basis to meet margin calls,” Byron Wien, a former Morgan Stanley strategist who now helps oversee $7 billion at Westport, Connecticut-based Pequot Capital Management Inc., wrote in an Oct. 15 report.
Fairfield, Connecticut-based GE, the world’s fifth-biggest company by market value, closed at $21.50 on Oct. 10, up 4.3 percent from the midpoint of the last bid and ask quotes. Before 2008, the stock hadn’t gained or lost that much in a full day of trading since March 2003, according to Bloomberg data.
Also on Oct. 10, Oak Brook, Illinois-based McDonald’s rallied 14 percent in the final hour of trading, climbing from $50.55 to peak at $57.78 as orders poured into the NYSE’s closing auction. Even though the stock was last quoted at about $55.55, the shares fell in the final trade to close at $53.35 for a daily gain of 2.4 percent.
“If you see unstable prices, it makes you not want to invest,” said Barry Savitz, senior managing partner at Stamford, Connecticut-based Greenwich Prime Trading Group, which trades for hedge funds. “That’s not investing, it’s gambling.”
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