Personal Finance

Such erroneous trades, when gone wrong, can cost the initiator dearly

Two friends meet at their regular paratha joint and an interesting conversation follows:

Samar: Hey, here’s your aloo paratha.

Harsh: I had ordered gobi paratha and not this.

Samar: Sorry! I think I had misheard you and ordered this; wait, I will get it replaced.

Harsh: Oh Gosh! You are so inattentive. I hope you do not become a fat finger trader now that you are going to become a dealer.

Samar: Now what is this, I already find markets complicated without jargons.

Harsh: Fat finger trade is caused by human error while punching the order. It can be an error in terms of price, quantity, or the type of execution — selecting sell when you intend to go for buy and vice-versa. They also call them freak trades.

Samar: But what’s the big deal in this, I don’t think one person’s freak trade is going to create chaos in the market.

Harsh: It has nothing to do with how many people commit this mistake, but the size of such a freak order. When such erroneous trades of significant size are entered, the market reacts to the order and for a few moments the market hits those abnormal levels before returning to the original levels. This one swing is enough to trigger various orders already placed.

Samar: I am starting to get a hang of it, but can you explain it more clearly?

Harsh: Ok, if a dealer gets an order to sell 1,000 shares of stock A and the dealer accidentally places order for selling 1 lakh shares, just two more zeroes, then this might drag the share prices — this will start matching all the buy orders at bid price to fill the order and therefore momentarily drag the price.

Samar: So, what happens in case of a freak trade, the person who placed it faces loss?

Harsh: At times, such trades may be harmless but when gone wrong this error will cost the initiator dearly; besides, there might be collateral damage as well.

Samar: What do you mean by collateral damages?

Harsh: It may so happen that the stop-loss which other traders may have placed against their open positions may get triggered due to the abnormal movement caused by these fat finger trades.

Samar: It’s scary, has anything like this happened in the markets?

Harsh: Yes, indeed it did. Earlier this month on June 2, a trader executed a large sell order of 25,000 contracts of Nifty 14500 CE at ₹0.15 when Nifty was trading around 16,600 at that time and the Nifty 14500 CE was trading at ₹2,128. It means the loss was around ₹1,06,392.5 per lot (₹2,127.85×50), and the loss for 25,000 lots would have been around ₹266 crore.

The impact

The stop-loss, which other traders may have placed against their open positions, may get triggered due to the abnormal movement caused by these fat finger trades

India’s most famous ‘fat finger’ incident occurred in October 2012, when a trader at the Emkay Global Services (a stock broking firm) mixed up the volume and price columns on a trade and punched in an erroneous sell order for ₹650 crore worth of Nifty stocks. This caused a 15 per cent drop in Nifty and the lower circuit was triggered and it lost around ₹50 crore.

Samar: Interesting! But can’t the exchange just reverse the trades so that the traders will be saved from such losses?

Harsh: Stock exchanges can accept the application for annulment if the request is made within 30 minutes from the execution of trade, requests made after 30 minutes but not later than 60 minutes will be considered in exceptional cases with a valid reason.

Samar: What steps can be taken to reduce or avoid the risk of erroneous trades?

Harsh: Firms can place limit on order value for an individual trader or dealer. In case of request for trade beyond a threshold, authorisation by a superior may be implemented. Even at the exchange level, certain limits may be placed which can identify such fat finger orders and request confirmation before execution. For individual investors, most of the trading platforms do not allow placing order at prices beyond circuit limits and there is limit freeze placed by the exchange. However, individuals must be cautious while trading, especially in options there are high chances that things may go wrong as there is enough volatility and such mis clicks may cost a lot to individual traders. 

Samar: Great! I will check the risk management tools in my new office and take personal care not to mess things up.

Published on June 11, 2022