
A web-reading bot made millions on the options market - prostoalex
http://www.slate.com/articles/business/moneybox/2015/04/bot_makes_2_4_million_reading_twitter_meet_the_guy_it_cost_a_fortune.html
======
runeks
'It also feels pretty far from the theoretical purpose of options trading.
Options are meant to provide insurance (a “hedge”) against potential losses in
a stock position. Market makers like my friend create the environment in which
to buy the insurance. This bot instead treats that market like a roulette
wheel—except it knows exactly where the ball will land. “If someone else has
what we call the ‘future script,’ ” says my friend, referring to the crystal
ball of the algorithm bot, “it really feels like they’re just robbing you."'

Robbing who? This is about as far from robbing as I can think of.

1\. Someone offers to sell a bunch of options, because he thinks he'll make
more money from this than if he didn't sell those options.

2\. Someone buys these options because he think he'll make more money than if
the didn't buy them.

3\. Time reveals the guy who bought the options was right, and he makes money.

This is simple speculation, and has nothing to do with robbing.

~~~
encoderer
Anybody that thinks the primary purpose of the options market is "insurance"
is ignoring their history. Among other things, calls were introduced 4 years
before puts. They are derivatives. They serve many purposes.

~~~
amelius
What purposes exactly?

If you'd ask me those derivative products are a convenient alternative to
casino style gambling and mostly add instability to the market.

I would love to hear an informed opinion, though. What do these products
solve, why are they essential? Also, what would happen if we would tax them
more heavily, perhaps incrementally over a period of time?

~~~
pjlegato
Options and many other derivatives are not merely a casino game. Their unique
role as financial instruments is to allow the transfer of risk from those who
have risk and don't want it (hedgers) to those who don't have any risk and do
want it (speculators). This is different from gambling because gambling by
definition involves the creation of entirely new risk for the purpose of
wagering; derivatives transfer pre-existing risk that will continue to exist
anyway even if the derivative didn't exist. This is identical to the more
familiar role of an insurance company in everyday life.

For example, suppose someone has a long term stock portfolio -- a classic
fundamentals investor with a decades-long time horizon, the farthest thing
from a casino style gambler you can find in the stock market. Maybe it's a
pension fund or an institutional endowment. They very much do not want to take
highly risky short term bets. They are only interested in safe, slow, long
term returns.

But markets can only provide that in aggregate. In the short term, markets are
very unstable, and individual stocks go to 0 if the company folds. The long-
term investor thus constructs a portfolio of many small investments rather
than a few big ones.

The portfolio manager has reason to believe that XYZ, one of the portfolio
companies, is about to go bankrupt. This is not certain, but the stock has
already begun to drop. If the stock drops to 0, the portfolio stands to lose a
lot of money (despite continuing to exist overall because of diversification.)

The portfolio manager can buy put options to hedge XYZ. These give the holder
the right to sell XYZ stock at a certain price, regardless of its current
market price.

In this case, they function as a form of insurance. If the rumors are false,
XYZ stock will bounce back up and the put expires worthless. If the rumors are
true, XYZ drops to 0, but the portfolio manager can still sell his XYZ stock
to the speculator who sold him the put option at a pre-determined price.

This is no different from buying fire or flood insurance on your house -- if
the value of your house goes to 0 through disaster, you can in essence sell
that worthless house to the insurance company for a predetermined price and
buy another house. Options are the stock market version of that.

If you tax them more heavily, that will make them more expensive to use, which
will discourage people from using them and arguably _increase_ instability
while decreasing growth in the stock market as everyone will be forced to
carry the full value of any losses themselves, with less possibility for
insurance.

~~~
amelius
That's a great explanation, thanks!

However, I still don't see the necessity of these instruments.

For example, wouldn't it be more natural for a pension fund to just spread the
risks by buying different stocks?

Also, I'm not convinced that derivatives would decrease instability. Like I
said, I would guess they do the opposite.

Perhaps there is some theory that can show this (something akin to e.g. the
fact that passive systems are always stable, for some definition of
"passive"). Or perhaps there exist empirical simulation-models that can shed a
light on this?

~~~
forthefuture
I think the real answer is that things don't need to be necessary to exist.
Options are just another way to structure investment. They exist because
someone decided to create them, and they continue to exist because humans
don't like losing things they already have.

~~~
pjlegato
Well, for that matter, stocks don't _need_ to exist, either. We could go back
to the medieval way of requiring all business enterprises to be fully funded
by the founders personally. The problem is that greatly restricts the scope of
what kinds of businesses can exist, since most interesting things for a
business to do require a lot more capital than most people have or can raise.

There are many examples of failed derivatives instruments -- that is,
derivatives instruments that once existed and no longer exist today because of
lack of interest in using them. They performed an insufficiently useful
economic role, so nobody traded them. Today, for example, there is an ongoing
effort to list real estate futures, but there is little marketplace interest
and they will probably be delisted within the next few years.

The derivatives that survived survive not from mere inertia, but because
people (not some abstract "system," but real people) find them economically
beneficial in some way.

------
downandout
_" The trade occurred 19 seconds before the tweet, and one second after a
headline appeared on the Dow Jones Newswire."_

I don't understand the mystery here. It would be trivial to write a bot that
could interpret a headline and make a trade on it in under a second, and
that's without any special high-speed links. With API documentation for a
brokerage house, I could write such a bot in probably half a day. Given the
astronomical sums of money involved, I have a hard time believing that this
isn't occurring on a daily basis.

~~~
x0054
Automatic trading is an automatic occurrence in deed, and many bots are design
to respond to news, tweets, and all kinds of things. That said, if you really
think you can write a bot that can do really good in the market, why not just
make one. For the sake of argument, just assume that you can confirm a trade
in 1-5 seconds, make a bot that just does fake trades, give it $10k in fake
currency, and let it play.

Come to think about it, such a system, with an API, would be really nice to
have. Something that allows anyone to create a trading bot and see how it
performs. Any one what to make one? :)

~~~
def_illiterate
I imagine there would be pretty good money in licensing an API. That's
probably where the real money is--let the idiots make the trades, and you sell
them the software.

~~~
x0054
Yep, it's like the someone else said in one of the other comments, don't dig
for gold, sell buckets and the shovels to those who do. :)

~~~
noir_lord
Always heard that as "In a gold rush, be the one selling pickaxes"

------
Turbo_hedgehog
My bet is insider trading with someone writing a simple bot to make the trade
once they see the trigger words made public.

~~~
onewaystreet
It's no longer insider trading if the information has been made public. There
would be no advantage to doing this either. There are thousands of firms and
individuals running keyword based trading bots. You would be competing with
all of them.

~~~
liquidcool
You may be much better educated than I on insider trading, but as I understand
it courts have ruled that insiders have to wait a reasonable amount of time
for the public to absorb that information. "Reasonable amount" seems to have
changed over the years (first read about it in Business Adventures, Buffet and
Gates' favorite biz book), but I note that most trading firms today state you
must wait until the 3rd business day to act on that information.

Another issue is whether you know this is _fact_ , but the public only knows
it as rumor.

Of course, you'll want to consult a lawyer about all this.

~~~
giarc
>wait until the 3rd business day to act on that information?

Definitely no. Just watch the news and see that the stock price of any company
changes after pretty much any news.

~~~
dannnn
That's because of the NON-insiders trading.

~~~
giarc
Sorry, I didn't catch that part. I thought the commenter was referring to
anyone.

------
keyle
I've had a go at writing something similar in the past. It was against the
Australian news on the ASX. Suffice to say I wasn't successful.

Even with a clear understanding of the situation, the reaction from the market
was mild compared to the swings of the global tides. When it worked, it worked
well. But you had to have the wind in your back to get decent moves.

If I were in the industry with low cost access, and I were on the US market, I
think things might have been different. But in my experience, you don't get
rich searching for gold, you get rich selling the buckets and the shovels.

------
xyzzy123
Interestingly, they don't discuss the possibility that someone just has a
radically better UI for acting on market gossip.

"“It would be impossible for me to do. By the time you could read the news,
process it, and press the ‘buy everything’ button, it would take too long."

I'm picturing the context switch between reading a tweet or news article and
some rocket ship of a program which gives you enormous power but takes some
time to place a (possibly complex) order.

What if it's just turking with a hotkey? Watch feed, see headline, Ctrl-u.

This feels a lot more plausible to me than the idea that someone made
sentiment analysis not suck.

~~~
cperciva
_This feels a lot more plausible to me than the idea that someone made
sentiment analysis not suck._

If you can respond faster than everybody else, you don't need sentiment
analysis. Just bet on volatility increasing (aka. buy options on both sides)
whenever a news story appears about a company.

~~~
hueving
There are many times a news story appears about a company that have absolutely
no impact on the stock. In fact, the anticipation of a news story that turns
out to be nothing note worthy will lead to a drop in volatility and make your
trade a losing one.

See every time a company announces earnings in line with expectations for
example. "x company made 1 billion in profit" could fail to move the stock at
all.

Betting that news is market moving requires a decent amount of analysis of the
news and the credibility of its source.

~~~
nostrademons
You could do some very simple keyword analysis to filter that out, though.
When words like "the deal", "in talks to buy", "to acquire", etc. appear, it's
a pretty good bet that it has something to do with an acquisition, and also a
good bet that volatility will spike.

A lot of people here are saying "I wouldn't bet $2.4M on that false positive
rate", but that's not how traders think. You only have to be right more often
than you're wrong (or alternatively, very right to offset being wrong a lot
more often) - "betting" is exactly what they do for a living. It's pretty much
the perfect application for statistical machine learning - users never see how
bad your algorithms are, and so it doesn't matter if the quality is worse than
a human as long as the speed is better.

~~~
hueving
"the deal"... Is still being negotiated Company x has been looking "to
acquire" a player in field y for some time and hasn't found any candidates
yet.

Keyword analysis by itself is almost completely useless.

~~~
nostrademons
Since when do newspapers write about _the lack_ of something happening? That's
sort of anti-news, isn't it? I could potentially see them writing something
like that as a throwaway sentence in another article about the company, but
the phrasing you've quoted is incredibly awkward and would probably never make
it into a real news story.

Also, an algorithm doesn't have to be perfect, it merely has to be right more
often than it's wrong. So what if you get a few false positives and a couple
of your trades blow up? That's why you're managing a portfolio and not dumping
your entire assets into a single trade.

~~~
hueving
When it comes to market speculation, non-news is published quite frequently.
Often time it comes in the form of stories that summarize what happened that
week.

------
throwawaytrader
A lot of people seem to assume that humans are too slow to react to news, but
this is definitely not the case. As an example, when the SNB dropped the swiss
franc cap earlier this year (one of the biggest financial news stories for
years), I know people who had time to read the headline on Bloomberg, look to
see where the market was trading, and sell EURCHF within 0.1cents of where it
was previously trading. As I watched the market reaction, I'm fairly confident
that the other traders reacting were also human. As it was unscheduled, no-one
would've been actively anticipating it happening on that day, never mind that
minute.

Generally, there are two types of financial news events. First is scheduled,
for example unemployment data - here, there are APIs to get the number and
place trades, and as a human it is impossible to compete. Similarly, for FOMC
statements, there is an API feed which provides objective answers to certain
questions about the statement, e.g. "Did any Fed members vote for a rate
increase?" Again, computers dominate. The other type of news events are
surprises - unscheduled events that people are unprepared for. I'm certainly
no NLP expert, but I do watch financial news feeds every day, and I can't
imagine it being remotely easy to write a program to filter out the false
positives. I've certainly watched a lot of market reactions to headlines, and
I can tell that a lot of headlines that people would assume would be easy to
write algorithms to trade on, produce market reactions that look far more
"human" than the instantaneous reactions to unemployment data or embargoed Fed
statements.

~~~
apaprocki
Agreed -- one can configure a Bloomberg terminal for immediate drop-everything
news alerts accompanied with pre-filled trade tickets containing positions you
currently hold. I'm in no way saying a human did this or that is what
happened, but just that the time-to-trade is probably a lot lower for a human
than most people think due to better tools (that themselves can even leverage
NLP/ML inside). It would be interesting to see someone study just how fast
humans can react using these type of alerts.

------
kenrikm
Next step, make a bot to tweet out (fake) news to trigger this bot and place
itself on the winning side of the trade.

~~~
WalterBright
That's called "pump and dump", and I believe it is illegal.

~~~
venomsnake
They can send the bots to jail.

------
GavinB
It's also possible that an insider knew the news was about to break and waited
for the announcement with the trade queued up.

------
morgante
I don't understand why this is even considered news. Bots have been monitoring
and trading on realtime news information for years.

~~~
pjlegato
Most people seem to be unaware of this fact, as the comments for this post
demonstrate.

------
patio11
This touches on several of the Big Issues with being a market maker, shopping
large orders, and HFT. Sadly, it's exactly as detailed as you'd expect a Slate
article to be.

It doesn't matter that it is a bot. The controller of the bot happens to be,
in this instance, _directional order flow_ : unlike the overwhelming majority
of market volume, he _actually has an edge_.

The options market maker is, unusually for market makers, forced to transact
with any comer. They've got a license to print money and that is the price of
the license. They get to pick their pricing.

In the old days, when people actually talked, parties would be cagey about
whether they were buying or selling, to make sure the market maker didn't use
that against them. The conversation went like this:

"Make me a market [quote a buy price and a sell price] for 100 contracts of
May Foo CALLs at $15."

"0.10 by 0.15."

"Buy a hundred."

"Done."

"Make me a market."

"0.10 by 0.15."

"Buy a hundred."

"Done. #'(%# you man what's your angle."

"Make me a market."

"0.11 by 0.16"

"Buy a hundred."

"Done, you mother(#%)0&. You want WEIGHT? I hate carrying this. Next one is
0.20 by 0.25"

"Buy a hundred."

"DONE. You through with me yet?"

"Make me a market for 1,000 contracts."

"YOU MOTHER()#%0# #O%'#(&')$#$ ((#) '%)(#%). 0.30 x 0.35."

"Buying 1,000."

"DONE YOU #%)0#0%)."

And the reason the marketmaker just hated that interaction is because they now
have what is politely referred to as "inventory risk." Market makers by
definition don't want exposure to the market, they just want to harvest _non-
directional order flow_ , where buys and sells roughly cancel each other out,
capturing the spread each time and making out like bandits. (In the case where
the market maker's second conversation was someone selling the same option
rather than buying, they just made $500 for about a minute total of work. A
"seat" on the CBOE, which is the license part of the license-to-make-money,
costs millions. The lucrative ability to collect a little toll from marker
participants is why.)

But once in a while, you get stuck with inventory risk. And, if you're stuck
with inventory risk by being short in grossly out-of-the-money call options
close to expiry, the vast majority of the time that's great news! They expire
worthless.

But they don't _have to_ expire worthless. There's literally thousands of
contracts which expire every month worthless, and (statistically speaking) a
handful which go from being worth pennies in the morning of expiry day to
being worth dollars in the afternoon.

You probably shouldn't feel badly for the options market maker here, except in
the general sense that you should feel badly for people who underperform at
their jobs. He's suppose to place orders that he'll be happy when the fills
come in. (i.e. When his offer to sell a call option is matched with someone
who inexplicably wants to buy them at a penny a contract.) He got the fills.

His problem is that a counterparty was smarter than he was and put in buy
orders in response to late-breaking information before he could cancel his
sell orders. Which is unfortunate, from his perspective, but avoiding this is
_literally_ his only job.

This is, incidentally, the whole premise of Flash Boys: people with lots of
stock to shop are the guy getting sworn at in the above conversation with a
marketmaker. They would prefer that marketmakers always buy 100k shares from
them at a go without experiencing any price slippage. Market makers do not
like this, but can't do much about it. HFTs are much better at making markets
than humans are, and are capable of managing the risks of large block trades
better. Some people who preferred getting an exceptionally good deal from
human market makers would prefer dealing with them instead of algorithms which
can actually, you know, do math many times a second for an entire trading day.

~~~
encoderer
Floor traders are not there to take the other side of a trade. The minute your
market maker completed his option trade he hedged it by buying or shorting
shares at the equiv delta risk. This is one reason spreads widen on option
sales when the market gets busy, and the reason there is put side volatility
skew. In both cases it's covering the risk that the price will move before
they can hedge their position.

~~~
loumf
I wrote options software for 4 years (and was in FinTech for 12) and I am just
writing this to say that this is right (in case you are wondering).

------
romanixromanix
>>*Correction, April 21, 2015: This article originally >>misstated that a
purchase of options on March 27 >>immediately followed a tweet by journalist
Dana Mattioli. >>It occurred 19 seconds before the tweet and followed a
>>newswire post by one second.

So the title of the whole article is totally misleading. It has nothing to do
with Tweets & Twitter.

Maybe the same bot (script) has done dozens other trades (false positives) at
a loss before.

~~~
giarc
I wonder how accurate the timing is, although 19 seconds is a very long time
to be off by.

------
zhte415
'A web-reading bot lost millions on the options market' also happens too.

------
dsjoerg
If you feel _entitled_ to your business, and someone starts taking it away,
that will feel like robbing, yes.

But it is pathetic for a serious businessperson to feel entitled to their
future business success. That's the kind of pride that comes before a fall.

------
golergka
Honest question.

Let's say that I want to experiment with some language processing and bet some
dollars on parsing news like these. I have decent general programming skills,
and have experimented with parsing stuff, but never touched trading.

Where do I even start?

~~~
tim333
There's a Udemy course. Might be a way to start?

[https://www.udemy.com/build-your-trading-robot/](https://www.udemy.com/build-
your-trading-robot/)

------
michaelgrosner2
I've spoke to a few people who's jobs are to be on top of these sorts of
trades and they said the most interesting part of these trades are that the
moves precede the jump in the stock. You look at the market data, the options
prices pop before the stock price. This is interesting because the options
market is almost by definition slower than stock markets (not just because of
the presence of HF firms in the underlying markets, but think of Black-Scholes
- one of the inputs to the model is the stock price). Many firms aren't yet
prepared for this sort of activity, but they'll plug that hole.

------
jim_greco
There is a whole class of point and click trader out there that brings up the
Bloomberg NEWS function (scrolling news), waits for the red flash (breaking
important news), and steamrolls over unaware market makers. Most of those
market makers are electronic.

It's been happening forever and of course it's now going to get automated. And
the electronic market makers will use the same techniques to cancel orders so
they don't get run over. The only people worse for wear will be the human
market makers and the human point and click traders who can no longer compete.

------
akgerber
Lime Brokerage was part of Mark Gorton's Lime Group (also as in 'LimeWire'),
though it has been sold.
([http://www.marketswiki.com/mwiki/Lime_Brokerage](http://www.marketswiki.com/mwiki/Lime_Brokerage))
He also runs Tower Research Capital, which is an HFT firm that recruited
pretty heavily at CMU when I was there. Their webpage says: "In the course of
developing its current trading strategies, Tower Research Capital LLC has
built a powerful set of analytical tools and an automated trade execution
infrastructure, which it is leveraging to pursue new trading opportunities.
The company is made up of a rare combination of highly proficient individuals
with backgrounds in a variety of fields: mathematics, computer science,
statistics, physics, economics, engineering, and finance."

That's who seems likely to be doing these trades to me.

------
prottmann
And someday this happen:

[http://www.newscientist.com/blogs/onepercent/2012/08/robot-t...](http://www.newscientist.com/blogs/onepercent/2012/08/robot-
trading-loses-firm-440-m.html)

------
BWStearns
Onewaystreet brought up the notion that it's not insider trading if you wait a
"reasonable" time after information is made public. Given that the appearance
of decent news-reading bots that can act on the <1s timeframe it would seem
that reasonable time is essentially the instant that the news hits the wires.
Would it be legal to set up a platform where insiders could pre-stage orders
with triggers to execute after waiting for the requisite 1 second after news
breaks?

------
chmike
This analysis is all based on the asumption that the tweet was the first
public info about the possible buy. The bot story is pure speculation.

------
callesgg
Not like the tweet actually in reality matters, the value of stock is not
related to what happens to a company.

It is related to what people think that other people think is related to the
stock value.

------
powera
It seems to me that the obvious conclusion here is that short-term options are
underpriced due to the risk of people trading on news before the market-makers
find out about it.

------
eruditely
Seems like this is just integrating over random walks and interpreting as
skill

------
atomical
How do the bots continuously monitor news feeds without being blocked?

~~~
spacemanmatt
The same way you or I do.

------
ychantit
as soon as the other players on the market will be doing it this turn to a
zero sum game the money is already been made we can all walk now

------
MichaelCrawford
I once wrote a special-purpose database kernel - not SQL, the database engine
itself - for a Bahamian hedge fund.

It is because of my experience with that hedge fund that I won't take
quantitative investment work anymore. I came to regard it as unethical.

I would not be in any way surprised if it were my former clients that pulled
this off. There were some smart people there.

~~~
lordnacho
What was unethical about it? Quantitative investment work can mean a lot of
things.

~~~
MichaelCrawford
I was enabling an already wealthy man to become even richer, at the expense of
unsophisticated investors.

~~~
pjlegato
Isn't it rather patronizing to dismiss "unsophisticated investors" as unworthy
of full agency in the stock market? Doesn't "unsophisticated" in this case
just mean "they wound up losing money," in a game they voluntarily and without
coercion signed up to play?

Suppose instead that the hedge fund had lost money. It happens every day.
Would you suddenly start to pity the unsophisticated hedge fund managers being
exploited by all those other vicious investors?

~~~
MichaelCrawford
I'm not doing anything to prevent unsophisticated investors from making poor
choices with their money.

However I do not wish to contribute to making their misfortune even worse than
it would otherwise be.

------
lotsofmangos
The obvious contender for doing this would be IBM's Watson.

