For example, automated marketmaking might allow an investor to instantaneously transact in a security at a visible price, with the market maker then able to immediately offset the risk by automatically hedging the exposure. Electronic and automated trading has also introduced risks to the Treasury market, as it has with other markets. For example, in the case of automated or high-frequency trading, firms must have sufficient internal controls to handle erroneous data and prevent malfunctioning algorithms. Considering that automated trading firms may hold limited amounts of capital given their minimal levels of net long or short exposure, some firms may be particularly vulnerable in the event of such an error. We have already seen some of these risks manifest themselves in foreign exchange and equity markets, where electronic trading is even more common. Further study is required to understand the particular nature of such risks in the Treasury market and the implications that may exist for other institutions, particularly since many automated trading firms are not direct netting members of FICC. Automated trading has also raised questions on issues related to fairness and market behavior. For example, there is likely some dispersion across firms with respect to the speed at which they can transact, which in turn could lead to dispersion in the quality of execution that market makers and end-investors are able to achieve. This is an important topic for examination and reflection, but it is also worth remembering that a varied level of technological access has long been a feature of competitive financial markets.
As I will explain later, the Treasury Market Practices Group has updated its best practices to emphasize the importance of supporting market liquidity as well as avoiding automated trading strategies that create a false impression of market price, depth, or liquidity. In conjunction with those best practices, the TMPG also released a white paper on automated trading that reviews several categories of associated risk, including operational risk, potential systemic counterparty risk, market manipulation risk, and transmission risk. October 15 Let me now turn to the unusual events of October 15. On that day, Treasury yields exhibited extreme volatility, with the benchmark ten-year yield trading in a range of about 35 basis points between the market open and close. This included a sharp decline in yields following the U.S. retail sales report at 8:30 ET that morning, and a highly unusual round-trip in yields just after 9:33 a.m. At that time, the ten-year yield fell about 15 basis points in a five-minute period, before nearly fully retracing that move in roughly the same increment of time. That very short “event window” was a remarkable occurrence in one of the world’s most liquid markets, and likely reflected a unique dynamic on what was already an unusual day. Indeed, the net change on the session as a whole was less than 10 basis points – a small fraction of the extraordinary intraday range that we are still discussing today (see the chart).