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Black Box Forecasts
"Six hours ahead of its time"
by Rick Ackerman
October 31, 2001

Does The Plunge Protection Team Exist?

I'm not big on conspiracy theories, especially the ones that imply meticulous planning, hermetic secrecy and deft execution by Uncle Sam and his covert agents. Given their record of bungling, I firmly believe that Lee Harvey Oswald acted alone, that the Watergate burglary was not an elaborate scheme to eavesdrop on the Federal Reserve Open Market Committee, and that FDR was neither unsurprised nor gratified when the Japanese attacked Pearl Harbor. And while Lyndon LaRouche and his ilk evidently think the CIA and Trilateralist Commission run the world, I seriously doubt whether those two institutions combined possess the operational savvy to run a back-alley crap game. Remember, these are the same guys who tried to kill Castro with an exploding cigar, and who believed the Soviet Union was trouncing us in the Cold War until the day the Berlin Wall fell.

Even so, there is reason to believe that the U.S. government may be loosely in cahoots with some top Wall Street firms to ensure that the stock market does not spook investors too badly, or too often. Now this does not necessarily mean, as some market-watchers now assert matter-of-factly, that there is a Plunge Protection Team which snaps into action whenever some crisis manager monitoring the market's vital signs on CNBC lifts a red phone at the White House. To begin with, who could run an operation like that? With the possible exception of former Treasury Secretary Robert Rubin, no Cabinet-level honcho comes to mind who could conceivably be entrusted with such a difficult job. And who actually believes that even Rubin could second-guess the markets any more successfully than, say, last month's top-rated guru in Hulbert's Digest?

How the 'Smart Money' Got That Way

So let's discard the svengali theory, as well as fanciful images of a White House powwow each day where guys who wear American-flag cufflinks map out contingency plans to administer the Heimlich if the tickertape should begin to choke on some shard of disquieting news. However, what we should not rule out is the possibility that some of America's biggest and savviest financial institutions have pledged their utmost diligence in helping to support and stabilize U.S. financial markets whenever necessary. There are two reasons why this theory is not so farfetched as it might sound. First, the firms could make quite a bit of money at it. And second, they would not have to risk much of their capital to do so.

Anyone who doubts this could not have been watching the stock market closely last Thursday, when a weak and dispiriting opening hour mutated into a bullish rampage that did not relent until the final bell. During bear markets in particular, rallies draw that kind of explosive power not from routine buying, but from shorts panicking to cover positions gone horribly and painfully awry. So when the stock market is quietly morose, as it was last Thursday, just one sizable buy order tossed into the S&P pit can have the effect of a Molotov cocktail, quickly engulfing shorts in the fires of hell. Keep in mind that, under certain conditions, a buy or sell order as small as 20 or 30 contracts can alter the course of the S&Ps over the very short-term. Just imagine what kind of pop Goldman Sachs, Morgan Stanley and Merrill Lynch could create, especially late in the day, if they were to simultaneously enter large buy orders for S&P contracts.

Scam Up-Close

This is exactly what has been happening in the S&P futures pit recently, according to friends of mine who have been close to the action, and it represents the refinement of program-trading techniques that have been used with increasing effectiveness since the days of the 1987 Crash. The huge growth of electronic trading undoubtedly has helped to amplify the effect, since a vast, global universe of traders, hedgers and speculators are effectively on a hair trigger, each seeking to be a step or two ahead of the stampede. Traders in the S&P pits are among the first to see the buy programs coming, and it has happened often enough lately to cause them to pull their offers at the first hint that the usual suspects may be about to light the fuse. When the sellers then back away from their offers, the lightened supply that results makes it possible for the S&Ps to lift effortlessly, kicking off a chain reaction of hedge-buying in other indexes, as well as in specific stocks and related securities and derivatives. Once the panic starts, it is a simple matter for the perpetrators to take sizable profits just minutes after the rally has begun. And if they should conspire to kick things off just before the final bell, they can position their offers in Asian and European markets so as to reap substantial profits with almost no risk.

Key to Distribution

There is an additional benefit to the institutional players that is tied to their long-term goal of easing out of the bear market at better prices than they would receive in an unrigged game. For, every time stocks spike higher following a buy program calculated to "run the shorts," the rally subsequently attracts bids below the market from those who missed the impulse wave. The initial rally will typically have occurred on relatively light volume, for that is the very nature of a price spike. But the "detumescence" period that follows can take days or even weeks, allowing institutional holders to distribute stocks into a steady stream of demand. Of course, this gambit cannot overcome the inexorable power of a bear market, only forestall it. Over time, the bear will have its way, as each price spike on the chart eventually gives way to a lower low. My guess is that the current round of thimble-rigging will play itself out within a week or two at most. No doubt, the scheme has succeeded thus far by getting the jump on seasonality factors. Which is to say, the "Christmas rally" has already occurred -- in the form of buy programs that by now have milked the last dime from credulous buyers.


Rick Ackerman

Copyright © 2001 Market Wise

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