Emergency Trading: What To Do When Facing The Unexpected

Uncertainty plays a key role in active trading. A breaking news item, surprise economic fundamental, or geopolitical event may send markets reeling at a moment's notice. Whether one is trading equities, futures, or forex, it is wise to be aware of how unexpected events can impact profitability.

However, what happens when an unexpected event prompts a disconnect from the market? While uncommon, systemic failures can make trade execution impossible and act as catalysts for financial loss. Remaining calm and quickly rectifying an untimely market disconnect is a critical part of successfully navigating a trade-related emergency.

The Digital Market Infrastructure

The modern incarnation of the financial markets has relegated the vast majority of trading activity to the online environment. Business is conducted remotely via a software platform instead of on trading floors and in open outcry auction "pits." This technological evolution has enhanced the liquidity and depth of currency, futures and equities markets exponentially.

Popular Asset Classes

In fact, the following asset classes have exploded in popularity (in terms of volume and capitalisation) since the dawn of the digital era during the late 20th century. Accordingly, the massive size of each marketplace is attributable, at least in part, to the digital format:

• Equities: According to the World Bank Group, the global stock market increased its capitalisation from US$45.09 trillion in 2000 to US$99.78 trillion in 2017.^[1]
• Futures And Options: Total traded volumes of futures and options contracts grew from 8.866 billion in 2004^[2] to 30.28 billion contracts in 2018.^[3]
• Forex: During the 20-year period from 1995 to 2015, the average daily turnover on the forex grew from US$1.2 trillion to more than US$5 trillion.^[4]

Four Necessary Elements Of Modern Trading

The increased size and reduced barriers of entry have afforded active traders many advantages, primarily trade-related efficiency. In return for the enhanced breadth, traders are now required to possess four distinct elements in order to conduct business on these markets. In the event that any one of the four fail, order placement and open position management become unsustainable. The following are the inputs that are essential to active trading in the contemporary marketplace:

Computer Hardware

Some form of computing power, desktop or mobile, is necessary for sending and receiving market data. Regular maintenance and updates can help reduce the chance of undue system latency or outright failure.

Internet Connectivity

Securing a robust internet connection, hard-line or wireless, is a prerequisite for anyone attempting to engage the marketplace. The performance of routine ping tests helps to ensure that the connection is operating properly.

Software Trading Platform

The software trading platform is the trader's window to the marketplace. It is a means of interpreting market data and it acts as a path for order entry. Downloading the current software version and any available updates will help to eliminate the chance for malfunction.

Exchange Connectivity

A viable connection to the market or exchange, via direct access or through a brokerage intermediary, is essential to conducting trade. Again, running ping tests with broker/exchange servers is an ideal way to make sure this connection is solid.

It's crucial that market participants are diligent in the upkeep of these four facets of the trade-related infrastructure. They're all necessary aspects of preserving robust market access.

If any of these areas of the trade-related infrastructure fails, a trader is effectively cut off from the marketplace. Open positions, active orders and any capital at risk is left unattended. It goes without saying, but adhering to a regular maintenance protocol and performing spot checks can save money in the long term.

Liability

For both short-term traders and long-term investors, failing to account for the unexpected can be costly. In fact, as any financial professional will attest to, the liability for being ill-prepared falls upon the market participant. This can mean a partial or total loss of risk capital.

SPIC

However, depending upon one's asset allocation, there are some systemic protections in place. For instance, the Securities Investor Protection Corporation (SPIC) protects investors against the loss of cash and other securities.

In the event that a "financially troubled" member of the SPIC cannot meet its monetary obligations, the SPIC reimburses clients up to US$500,000 in aggregate investment value. An additional US$250,000 coverage is offered for cash deposits.^[5] Securities such as U.S. stocks, Treasury notes, certain ETF offerings, bonds and certificates of deposits are some of the more common insured assets. However, the SPIC doesn't insure all asset brokerage accounts, such as those that deal with cryptocurrencies.

FDIC

Another body that promotes market integrity and can reinforce an investor's risk tolerance is the Federal Deposit Insurance Corporation (FDIC). The FDIC is an independent bureau created by the U.S. Congress. It insures deposits while examining and supervising financial institutions for safety, soundness and consumer protection.^[6]

Why Regulating Bodies Are Important

When managing one's personal finance, it's a good idea to conduct business with entities that are regulated and backed by bodies like the SPIC and FDIC. Either consult a third-party financial advisor, research broker-dealer disclosures or consult an official summary prospectus before distributing funds Although such forms of deposit insurance won't cover losses from dramatic asset price changes, they do protect consumers from the counterparty risk of dealing with securities distributors.

How To Be Prepared For The Unexpected

Aside from running ping tests and updating your hardware and software to enhance your performance, it's challenging to address an unexpected system failure in real-time. Many issues causing system outages fall completely outside of the trader's control. The following are a few emergency situations unavoidable to market participants:

• Internet Outages: Internet outages can come out of the blue and are not limited to the local geography of the remote trader. An untimely crash of internet service provider hardware residing between the trader and exchange can cause data bottlenecks or worse. Rare events such as a solar flares, political embargoes, cyber warfare, and even severed fiber optics can shut down regional internet service.^[5]
• Exchange/Market Failure: Cases of "glitches" or server failures originating at the exchange have been documented, negatively affecting participants. The collapse of NASDAQ technology during Facebook's initial public offering and the 2012 crash of communications at the Tokyo Stock Exchange are two modern examples.^[6]

Precautionary Measures

While there is little traders can do to avoid regional internet outages and exchange glitches, the vast majority of trade-related emergencies are easily remedied. Unless an extraordinary event is driving a broad-based internet or power outage or exchange crash, taking the following precautions can help rectify 99% of trade-related emergencies:

• Alternate Internet Connection: Securing a secondary internet connection is one way to maintain contact with the market. Wireless options and dedicated hard lines are two avenues by which to accomplish this task.
• Auxiliary Power Supply: The loss of power can bring active trading to a grinding halt. Aside from access to a mobile device, having an auxiliary power supply such as a charged battery or generator can help navigate an untimely power grid failure.
• Trade Desk Phone Number: In the event that any part of the remote trading infrastructure fails, a simple call to the broker's trade desk is an ideal solution. Direct phone access to the trade desk is valuable in closing out open positions or pulling active orders from the market quickly.
• Access To A Direct News Feed: During times of chaos, reference to a live news feed is a good way to stay abreast of extraordinary circumstances in real time.
• Protective Stops: One way to limit the negative impact of an unexpected event on profitability is to implement stop losses on all open positions. By having a stop loss order residing at the market/exchange, the financial liability of an unfortunate move in asset pricing is limited.

Overcoming adversity in times of crisis relies on staying calm and being prepared for as many scenarios as possible. These are all simple ways to ensure that any potential disruptions could have a limited impact on your trading activities.

Market Conditions

Perhaps the single greatest factor in emergency trading are market conditions. Regardless if one is decisively up or down markets, the responsibility falls upon the trader to be prepared for anything. Extreme volatility can come on quickly and without warning, and it's up to the individual to remain diligent on all trading days.

Over the past century, the world's capital markets have provided many examples of emergency trading conditions. A few of the most memorable were the Crash of 1929, Black Monday (1987), the onset of COVID-19 (March 2020) and the Russia/Ukraine War (2022).

Although each of these events is very different from the other, extreme volatility and uncertainty were common attributes. The result were extreme pricing fluctuations in the forex, futures, bond and shares markets.

COVID-19 Pandemic

The coronavirus (COVID-19) pandemic brought unparalleled strife and angst to capital markets around the globe. No asset class was spared extreme volatility and massive price swings. From gold and shares to emerging markets stocks, price fluctuations far exceeded their normal standard deviation values.

While most long-term investing strategies eventually recovered from the COVID-19 crash of 2020, it remains a prime example of emergency trading. In fact, Wall Street's "fear gauge," the CBOE Volatility Index (VIX), reached 82.7 during March 2020.^[7] For the benchmark VIX, this reading was the highest since the 2008 Global Financial Crisis.

The elevated VIX illustrated the degree by which COVID-19 roiled the world's equities markets. During the period of time between 1 March 2020 until 31 March 2020, the leading stock indices experienced severe bearish pressure:

• The S&P 500 Index posted a monthly loss of 12.5%.^[8]
• The Dow Jones Industrial Average (DJIA) saw values fall 15.21% for the month.^[9]
• Growth and tech stocks were also hard hit as the NASDAQ plunged 8.33%.^[9]
• Emerging market indices such as the China A50 and Hang Seng were also placed under extreme pressure. For the month, the China A50 and Hang Seng fell by more than 5%.^[9]

Note: Past performance is not indicative of future results.

During the March 2020 onslaught of COVID-19, many retail and institutional long-term investors chose to shift their attention to the United States dollar (USD). To deal with the humanitarian and financial emergency, vast interest was taken in the USD.

Through the process of capitulation, huge amounts of investiture were directed at acquiring the world's reserve currency as a primary holding. The end result was a rally in the USD Index (DXY) to above 104.00, a level not seen in more than a decade.^[9]

Russia/Ukraine War

It's important to remember that market fluctuations can develop rapidly and defy all previous forecasts. For instance, the Russian invasion of Ukraine sparked nearly unprecedented volatility in the Russian ruble (RUB). In fact, following a collection of sanctions against Russia, the USD/RUB spiked from a pre-invasion value of 77.35 to a high of 154.25 two weeks later.^[9]

However, the ruble recovered as Russia's central bank raised interest rates from 9.5% to 20% in late February 2022.^[10] Also, a currency peg was instituted to the price of gold, which helped to stabilise the ruble's value in the short-term. Within six weeks from the invasion date, this diversification of policies prompted the USD/RUB to fall more than 50% from its post-sanction high of 154.25 high.^[9]

The USD/RUB and Russia/Ukraine War are a prime example of why a forex investment strategy should account for certain outliers. Initially, it was believed that sanctions from the U.S. and NATO nations were to undermine the ruble's value. Despite this view, Russia's countermeasures proved effective in stabilising their domestic currency. While the March to May 2022 downturn in the USD/RUB's value was somewhat of a surprise, the negative impacts of the sudden bear market could have been mitigated by a diverse strategy.

Summary

Perhaps the most valuable skill that successful traders possess is the ability to deal with the unexpected decisively in live market conditions. From a spike in pricing volatility to a sudden power outage, surprises have the potential to destroy profitability.

While past performance is not indicative of future results, remaining diligent in the market can limit both known and unknown risks. Through maintaining the trading infrastructure, using stop losses and having safeguards in place, the negative impacts of an emergency may be largely mitigated.