What Is a Flash Crash?

What You Need to Know About Flash Crashes

Definition

A flash crash is when the value of a market plummets in electronic trading over a short time period.

Traders work on the floor of the New York Stock Exchange before the closing bell May 6, 2010. The Dow plunged almost 1000 points before closing down about 350 on Greek debt fears
Photo:

Mario Tama / Getty Images

Definition and Examples of a Flash Crash

A flash crash occurs when the value of a market drops significantly in electronic trading over a short time period. The original flash crash occurred on May 6, 2010, when the Dow Jones Industrial Average dropped almost 1,000 points within 10 minutes. The plunge cost $1 trillion in equity.

It recovered most of its lost territory by the end of the day. The euro plunged to a one-year low against the dollar. A flight to safety drove gold up to $1,200 an ounce. It knocked the 10-year Treasury note yield down to 3.4%.

Note

The opposite of a flash crash—a rapid increase of prices in a market—is sometimes called a flash spike.

How Does a Flash Crash Work?

An extremely large block of trades can usually set off a flash crash. Computer trading programs make any crash worse. These "bots" use algorithms that recognize aberrations, such as sell orders. They automatically react by selling their holdings to avoid further losses.

These programs automatically sell according to their code when a world event or a computer glitch tells them that something unusual is happening. These trading programs make any stock movement more intense, adding risk.

The concern is that one of these crashes could could cause a recession. A typical stock market crash signals a loss of confidence in the economy. When confidence is not restored, it leads to a recession. Investors usually realize a flash crash is caused by a technical glitch, not a loss of confidence.

But a flash crash could trigger confidence loss if it lasted long enough to cause concern. It would also destroy wealth for investors. It might even frighten consumers into buying less if it lasted long enough. It could be just enough to trigger a recession at the wrong phase in the business cycle.

Note

Mini flash crashes—quick drops in the prices of individual securities or futures—occur regularly.

Some Past Flash Crashes

Several flash crashes have occurred in the millennium.

2017 Ethereum Flash Crash

On June 22, 2017, the price of ethereum crashed as low as 10 cents from around $319 in a matter of seconds on the Global Digital Asset Exchange (GDAX).

2022 European Stock Market Flash Crash

Citigroup took responsibility for the flash crash that took place on May 2, 2022, which caused some European stocks abruptly turn lower. Apparently, one of traders made an error when inputting a transaction (hence the name "the fat finger crash"), but soon after Citi identified the error and corrected it.

2015 NYSE Flash Crash 

The floor of the New York Stock Exchange (NYSE) stopped trading for three hours and 38 minutes on July 8, 2015. Trading was quickly shifted to the 11 other exchanges, including the NASDAQ, BATS, and many "dark pools." The NYSE lost 40% of trading volume as a result.

The cause of the shutdown is still unknown. It could have been linked to the closure of the Wall Street Journal's homepage, or the grounding of United Airlines flights. Both occurred on the same day.

2014 Bond Flash Crash

The yield on the 10-year Treasury note plunged from 2.02% to 1.86% within a few minutes on Oct. 15, 2014. It quickly rebounded. The plunge made it seem like a sudden surge in demand for these notes. Bond yields fall when prices rise. It was the biggest one-day decline since 2009. Volume was double the norm. 

Many blame the algorithm-based programs that are responsible for most of the trading in the U.S. Treasury, with estimates of 50% in cash securities and 60% to 70% in futures. An increase in electronic trading has reduced the bank's involvement and over-the-phone orders. The combination of automation and high frequency trading can speed up any reaction in the market.

There was also limited liquidity in bonds available to sell. The market depth was unexpectedly low, even though the volume in the 10-year note was up.

2010 Dow Flash Crash

The Dow fell 1,000 points within 10 minutes on May 6, 2010. It was the biggest point drop on record, costing $1 trillion in equity.

A London suburbanite, Navinder Sarao, was sitting in his home using a personal computer at the time. Investigators found five years later, in 2015, that Sarao had made and quickly canceled hundreds of "E-mini S&P" futures contracts. He engaged in an illegal tactic known as “spoofing.” Waddell & Reed destroyed liquidity in the futures contracts as a result by dumping $4.1 billion worth of contracts.

The CME Group warned Sarao and his broker, MF Global, that his trades were supposed to be executed in good faith.

Note

Spoofing manipulates the market price by falsely building up the price, then quickly selling them for a profit.

Everyone thought at the time that the crash was caused by the Greek debt crisis. The county's debt had just been downgraded to junk bond status by rating agencies. This created protests in the streets. It could trigger defaults by other debt-laden countries like Portugal, Ireland, and Spain if the European Central Bank (ECB) let Greece default. Investors who held these countries' bonds would have incurred huge losses.

Many of these investors were banks, so the London Inter-Bank Offered Rate (LIBOR) rose. This was similar to what happened during the 2007 bank credit crisis. It created fear of a credit freeze in European banks. 

Like many other past crashes, it did not lead to a recession.  

2013 and Other NASDAQ Flash Crashes

The NASDAQ is famous for flash crashes. It closed from 12:14 p.m. to 3:25 p.m. EDT on Aug. 22, 2013. One of the computer servers at the NYSE couldn't communicate with a NASDAQ server that fed it stock price data. Despite several attempts, the problem couldn't be resolved, and the stressed server at NASDAQ went down.

NASDAQ computer errors also caused $500 million in losses for traders when the Facebook (now Meta) initial public stock offering was launched. The IPO was delayed for 30 minutes on May 18, 2012. Traders could not place, change, or cancel orders. A record 565 million shares were traded when the glitch was corrected.

Is the Stock Market Rigged?

Michael Lewis, author of Flash Boys, said that the presence of these high frequency trading programs means that an individual investor cannot get ahead. The programs take in massive amounts of data and make split second decisions and trades long before a human can do so. Companies that use them, such as Goldman Sachs and JP Morgan, haven't lost on a trade in years. The stock market is rigged for the average investor, says Lewis.

Lewis defended his research to the CEO of BATS, the second largest exchange behind the NYSE, on CNBC. It's an all-electronic exchange like the NASDAQ, but larger.

How It All Affects You

If Wall Street isn't rigged, it may as well be as far as you're concerned. There's no way an individual stock picker can collect more information than these computer trading programs. That's why so many asset classes move in tandem. These programs aren't regulated, either.

But the situation isn't hopeless. It's impossible to outthink these programs on a day-to-day basis, but you can tell where the market is headed by following the business cycle. Keep a well-diversified portfolio. Adjust your asset allocation each quarter to make a decent return. Remember, it's not how much you make, but how little you lose. 

Key Takeaways

  • A flash crash is when the value of a market plummets in a short period of time due to electronic, automated trading. 
  • Flash crashes are usually caused by an extremely large block of trades, along with the automatic reactions of computer trading programs.
  • The original flash crash occurred in 2010, and there have been several others since then.
  • A flash crash generally doesn't cause a recession, but it could be enough to trigger one if the crash occurred at the wrong phase in the business cycle.
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Sources
The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy.
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  3. SD Bullion. "Price of Gold 2010."

  4. U.S. Department of Treasury. "Daily Treasury Yield Curve Rates (2010)."

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  7. Federal Register. "Self-Regulatory Organizations; New York Stock Exchange, LLC; Notice of Filing and Immediate Effectiveness of Proposed Rule Change Modifying the Manner in Which It Calculates Certain Volume, Liquidity and Quoting Thresholds Applicable to Billing on the Exchange in Relation to a Suspension of Trading on the Exchange on July 8, 2015."

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  12. Commodity Futures Trading Commission. "CFTC Charges U.K. Resident Navinder Singh Sarao and His Company Nav Sarao Futures Limited PLC With Price Manipulation and Spoofing."

  13. Harvard Law School. "Market Manipulation: Definitional Approaches," Page 2.

  14. United States District Court of Northern District of Illinois Eastern Division. "United States of America VS. Navinder Singh Sarao," Page 13.

  15. International Monetary Fund. "Global Financial Stability Report April 2015," Page 68. Select "Free Download."

  16. Federal Reserve Bank of St. Louis. "LIBOR Rates," Enter Date Parameters.

  17. Nasdaq. "Nasdaq OMX Provides Updates on Events of August 22, 2013."

  18. U.S. Securities and Exchange Commission. "SEC Charges NASDAQ for Failures During Facebook IPO."

  19. Michael Lewis. "Flash Boys, A Wall Street Revolt," Pages 4. W.W. Norton & Company, 2014.

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