CHICAGO (CN) – A Cayman Island-based investment firm demands $3.1 million from three Chicago-based derivatives trading firms for money lost during the May 6 “flash crash” that set markets reeling and triggered widespread emergency buying and selling of shares at erroneous prices.
GovPlus Master Fund demands $3.1 million from Citadel Investment Group, Wolverine Trading and Chicago Trading Co. The Chicago Board Options Exchange refused to rescind the trades made during the computer disaster, so the fund seeks restitution for unjust enrichment, in Cook County Court.
GovPlus claims that when the brief crash hit, its fund managers “recognized that [the shock] was extreme and were compelled to adhere to their risk-management policies and buy or sell into the crash to manage risk in their portfolios.”
Later, in acknowledgment that these and similar trades were made based on erroneous information, the U.S. Securities and Exchange Commission and several major U.S. Stock Exchanges decided to “break” or rescind trades that took place during the crisis, if the price of the securities moved more than 60 percent from the last trade before the fiasco began.
In total, U.S. exchanges broke approximately 20,761 trades in connection with 326 different equities and equity derivatives, the complaint states.
But the Chicago Board of Exchange refused to apply the “60 percent rule” and broke only 138 trades, GovPlus says, allowing the three defendants to profit unjustly at its expense.
During the flash crash, the S&P 500 suddenly and inexplicably fell 49 points, lost nearly $1 trillion in market capitalization in just 7 minutes, and then, almost immediately, and for equally mysterious reasons, regained 49 points in the next seven minutes. The Dow Jones, already down 300 for the day, suddenly lost more than 600 points, then recovered.
Investigators concluded that the financial roller coaster was set off a single large trade in a mutual fund – about $4.1 billion – which set off panic selling, and combined with electronic, high-frequency trading, the markets nosedived.
Investigators identified numerous examples of erroneously reported price declines, including Procter & Gamble, which the New York Stock Exchange reported dropping by 26.1 percent, from $61.65 per share to $39.37 per share during the crash; and 3M, which declined about 18.45 percent, dropping from $83.30 per share to $67.98 per share.
“During the flash crash, investors had no explanation for the cause of the crash and, therefore, no reasonable basis upon which to conclude that it was all some form of liquidity crisis caused by a computer glitch,” the complaint states. “If armed with such data, they could have watched from the sidelines as the US equities market crashed and recovered, Instead, however, many investors watched in horror and were compelled by their risk-management policies to manage risk in their portfolios by hedging into the crash.”
The complaint states that during the crisis, “U.S. equities markets failed investors”.
“They gave the appearance that an historic fire was burning somewhere in the world causing the intrinsic value of U.S. bellwether equities to plummet,” it adds. “In reality, there was no fire anywhere, only a false alarm propagated without contemporaneous explanation across markets in minutes.”
The plaintiff funds say they tried but failed to negotiate a settlement before turning to the court.
They are represented by Edward Wallace and Chad Bell with Wexler Wallace in Chicago, Roger Mandel and Blake Beckham with Beckham & Mandel in Dallas, and John Cracken, also of Dallas.