Don’t blame robot traders for stock market volatility

In play is a strategy of risk management and resource reallocation

Australian shares, like those around the world, have undergone extreme volatility during the past few days with billions wiped off the stock market, and the Australian dollar at it's lowest level in a decade

“Markets have suffered a sweeping global sell-off amid the escalation of the US and Chinese trade war,” says Elvira Sojli, an associate professor in the school of banking and finance at UNSW Business School.

Some analysts have been quick to blame automated trading software, or ‘robots’, for triggering selling at certain levels, known as a stop loss. However, Sojli says “this is completely off base right now. What we are observing is risk management mixed with investors reallocating resources across markets.”

“Institutional investors didn’t see this coming. We’ve had  the new tariffs on China as well as the very unexpected decrease in US services last month, including the Institute for Supply Management Manufacturing drop by 4%,” she says.

“Global markets are reeling from the ramping US-China trade conflict, and policy instability from an erratic and off the cuff policy-making strategy.”

Sojli says robot traders don’t trade in a vacuum, and instead the cause of the chaos may be an investment and risk management strategy. 

“Programmed trading has been used to carry out the trading strategies that humans want, in a more systematic way. There was a market expectation that if the Chinese yuan had weakened beyond the 7 yuan per US dollar, or if Aussie 10-year bond yield dropped below 1%, it would trigger a sell off, and at this point many algorithmic orders traded out of the equity market. The price decreases - or losses - triggered stop loss orders, which led to large sell offs.”

Sojli's analysis of swings in the stock market suggests the current volatility and decrease in prices is a conflation of several effects, including Chinese companies suspending purchase of US agricultural products which could result in extra tariffs, and the US President talking about China as a currency manipulator and announcing more tariffs.

“It’s a shock after the US and Aussie stock indexes set record highs recently,” she comments. “However, escalating trade tensions and some unexpected negative numbers on economic activity have made traders take stock.”

Sojli has researched how higher interest rates fuel higher exchange rates, and how political uncertainty creates stock market volatility.

“The US market uncertainties are reverberating around the world,” she adds.