An Interview with Eric Scott Hunsader

In this interview for the HFT Review, Mike O’Hara talks to Eric Scott Hunsader, Founder of Nanex LLC, the US data feed company, about the explosion of data in the US financial markets, conflicting reports around the causes of last year’s “Flash Crash”, some problems with current academic research into HFT and how to improve the signal-to-noise ratio in today’s electronic markets.

HFTR: Eric, Nanex has become known in the last eighteen months or so for its extensive research into US market events and phenomena. But can you give us a quick overview of what is Nanex’s core business? 

EH: We’re a feed aggregator. We take in the feeds from all the US equities, options & futures exchanges, we normalise that data, add a very accurate timestamp on it, compress it about 20-1, which is really what gives us our niche, then we send real-time, delayed and historic data out to subscribers. 

HFTR: Who typically are your customers? Retail investors? Institutions? Prop traders? Hedge funds? 

EH: We have a little of each, and the reason for that is that we’ve never really gone out and marketed or advertised, we kept things quiet for a while. I’ve been doing this since the mid-eighties when I was collecting S&P 500 futures data on floppy disks and selling it on a BBS. In the mid-nineties, I developed a real-time streaming charting service and partnered with with Quote.com. There, we went from zero to about 10,000 paying subscriptions in about fourteen months and it was one of those overwhelming growth stories where it was impossible to do anything further with the software because of the huge influx. So I wanted to grow this one quietly. People started trickling in through word of mouth, from all areas of trading, because we didn’t specifically target any one group. We supply data for Ameritrade, we’ve got companies like Peak Six who use us as a backup or a secondary feed, we’ve got prop shops, exchanges (the NYSE is reselling our OPRA options data for example), and we have retail guys who trade out of their houses. 

HFTR: I originally came across Nanex when I stumbled across your “HFT Crop Circles”, which is an interesting analogy of patterns you were seeing in market data as a result of algorithmic activity. What was it that caused you to start looking at these patterns and commenting on them? 

EH: It was the Flash Crash, the lack of any movement going on and the fact that we had all the tools in place to really make a couple of grand sweeps through the data and put together some random thoughts to flesh out what was really happening. When we did that, we noticed that some stocks had thousands of quotes per second with no trades, and we’d never really seen that before. 

HFTR: So if we look at the Flash Crash specifically as a starting point. There’s been a great deal written about the events of May 6th last year and there are various opinions about what actually happened, some better informed than others. The SEC and the CFTC came out with their joint report on October 1st last year and then you came out with your own report, which recognized a lot of what the SEC & CFTC were saying, but your analysis indicated there was more to it than met the eye. Can you take us through that? What did you see that the SEC and CFTC missed? 

EH: They described everything that happened either after the bottom was reached, or as a result of that big drop. Nothing they talked about was unique or had anything to do with what actually tipped the market over and got it snowballing down hill. They talked about stub quotes for example, but if you simply look at the data, you’ll find that the overwhelming majority — really, any that mattered — executed after the bottom. Same with LRPs (Liquidity Replenishment Points). So all of the things they focused on were problems with the market after the crash, which isn’t the same thing as discussing what caused the crash. They’re two different things. 

We did put our initial analysis out a couple of weeks after the May SEC/CFTC report and we were thinking about producing a follow-up after theirs was published. Then out of the blue, Waddell & Reed sent us all 6,438 eMini trade execution reports, which totalled 75,000 contracts.

HFTR: These were the executions highlighted in the SEC/CFTC report as being what triggered the downward move, correct? 

EH: That’s right. The SEC/CFTC report stated that the execution algorithm used by the “large seller” (i.e. Waddell & Reed) gave no regard to price or time, but once I started looking through the data, it became pretty clear that the execution algorithm did in fact use both time and price, so I started wondering whether the SEC & CFTC really looked at this data? That led me to asking questions about the algo from the guy at Barclays, the execution broker for Waddell & Reed, who verified the trade executions sent from W&R. When the question came up on why Barclays didn’t clearly explain to the SEC & CFTC during the investigation interview that the execution algo does in fact use time and price, I received the stunning answer: “They never interviewed us” 

After analyzing those trades that Waddell & Reed gave us and talking to Barclays, we wrote our own report stating that this algorithm was clearly mis-characterised, there’s no way that the algo the SEC/CFTC talk about in their report matches up with this at all.

The very next week, the CFTC invites Barclays to a meeting (and this is on record on the CFTC website), which turns out was the first time the algo was discussed in detail. So first they finger Waddell & Reed and paint this execution algorithm as something that went wild, and then they finally interview the guys who actually executed it!

HFTR: So can you take us through your analysis of what happened? 

EH: Well, first of all, that algorithm only sold on the offer side, it never hit the bid.

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