As U.S. equity markets opened and resumed trading last Wednesday, the impact of Superstorm Sandy began to dissipate. Opening auctions ran smoothly. Trading volumes were high, but not unusually so. Share-price volatility was normal. Behind closed doors, however, U.S. exchange operators were still discussing the market-structure issues revealed by the massive storm, which halted trading in U.S. equities for two days the longest weather-related closure since the blizzard of 1888.
Although the decision to shutter the market was reached by industrywide consensus late on Sunday night, before the storm hit, the responsibility for the shutdown was not shared equally among U.S. exchange operators. Nasdaq OMX, which operates fully electronic trading platforms, had been ready to open on Monday. BATS Global Markets, which also operates electronically and is headquartered in Lenexa, Kansas was prepared to open its electronic exchanges for trading on Monday, too. But NYSE Euronext, the operator of the much-vaunted New York Stock Exchange, hesitated to open its floor-trading operation on Wall Street and risk endangering staff.
NYSE did have a business continuity plan in place, which it fully intended to set in motion on Monday. The plan, according to Joe Mecane, head of U.S. equities for NYSE Euronext, was to close the trading floor and operate exclusively on Arca, the exchange operators electronic trading platform. Almost as soon as NYSE announced its plan to its member firms, however, the pushback came hard and fast, say industry sources. The proposed switch apparently caught some broker-dealers by surprise and would have required them to send their own programmers into the city to reconfigure order-routing software on Sunday night, even as the winds rose and the subway system closed a prospect that caused considerable alarm.
I think the fear came from two things, says Mecane. The fact that this was the first time NYSE would be implementing its electronic-only disaster recovery plan in a live production environment and the fact that people realized that wed made a decision that it was not advisable to send people into downtown Manhattan.
Faced with open revolt by some of its member firms on Sunday evening, NYSE in conjunction with the broader exchange community decided that the potential threat of opening to disorderly, volatile trading on Monday was simply too great. Part of the difficulty, say market experts who were privy to the discussions, was that so many broker-dealers were unprepared for the change of venue and worried about their ability to connect and participate in opening stock-price auctions. NYSEs rivals were not entirely confident that the opening auctions would run smoothly on Arca, either, and after a summer of technological mishaps and trading glitches were reluctant to risk any hint of structural disorder. With the industrys reputation in mind, even NYSEs fiercest competitors, Nasdaq and BATS, agreed to the Monday closure.
We were ready in all regards, along with the other electronic exchanges, but in an interconnected market it didnt make sense for just part of the market to be open, says Chris Isaacson, chief operating officer of BATS Global Markets. The real concern in the exchange community focused on peoples safety and the functions that NYSE performs in running opening and closing auctions. NYSE also manages the intraday volatility around those, because single-stock circuit breakers are still the responsibility of the listing exchange to send out.
NYSEs reprieve didnt last long, however. Although the U.S. equity market remained closed on Tuesday, NYSE, Nasdaq and BATS were busy running extensive tests that day to make sure that the markets could open smoothly again on Wednesday even if NYSEs physical trading floor still wasnt operational. Had its trading floor remained closed, NYSE would have implemented its original disaster recovery plan and run opening auctions on Arca. But the exchange operator managed to get the trading floor reopened in a Herculean effort, and trading resumed as normal on Wednesday.
Although U.S. equity markets have been functioning smoothly ever since, questions are still percolating in the exchange industry about the way that future crises ought to be handled. The irony is that the exchange industry had a chance to test its collective preparedness just a year ago, with Hurricane Irene, which was downgraded to a tropical storm by the time it clipped New York. Unlike Sandy, Irene didnt cause any major damage to New Yorks infrastructure, but its presence heightened the exchange industrys sense of urgency around the need for adequate disaster recovery processes.
We had this discussion amongst the exchanges and regulators about Irene, last year, and made it clear to all parties that the market should never be beholden to lower Manhattan and its accessibility, says BATSs Isaacson. But it is apparent in hindsight that some of the contingency planning was simply inadequate. Nonetheless, given the circumstances and the facts at hand, I believe we made the right decision, collectively, to close the market. However, I hope that preparedness is better next time so we can open.
Suffice it to say that this may be the last time that U.S. equity markets close for such an extended period of time due to a single, regional weather event. Although it may be premature to guess about the changes that may emerge in Sandys aftermath, it seems likely that tighter coordination between exchanges and their member firms will become a necessary, if not mandatory, part of modified business contingency plans. Other changes may be subtle but no less significant, says Isaacson, including the possibility of running opening auctions on an alternate exchange should an issue arise with any single listing exchanges ability to open. The details have yet to be discussed, but Eric Noll, head of transaction services for Nasdaq OMX, concurs that, in the aftermath of Sandy, business continuity plans across the industry will have to become much more robust.
Coming out of this, people are going to look at Sandy and ask, How can we be better prepared for another storm of this magnitude? says Noll. Over time, Nasdaq OMX has worked closely with our member firms to test our business continuity plan; as an industry, we must ensure the integrity and robustness of our markets.
The lingering question that NYSE is not yet prepared to answer, however, is the impact that Sandy could have on the future of NYSEs traditional floor-trading operation. At a time when rival stock exchanges can function smoothly irrespective of their location, NYSEs dedication to its floor-trading model in lower Manhattan seems like its competitive Achilles heel possibly admirable, but undeniably costly and anachronistic.