May 11, 2010 / 10:45 PM / 9 years ago

Chicago fires back over stocks sell-off blame

* CBOE: Nothing to suggest options caused Thursday swoon

* CME says trading in its contracts didn’t feed stock drop

* Thursday’s plunge feeds Wall St-LaSalle St rivalry

By Doris Frankel and Ann Saphir

CHICAGO, May 11 (Reuters) - Chicago’s message to New York and Washington: Don’t blame us.

Almost since the first hint of last Thursday’s stock market meltdown, talk focused on futures contracts traded at Chicago’s giant exchange, CME. On Tuesday, an article in The Wall Street Journal pointed blame at a bearish options bet at the Chicago Board Options Exchange (CBOE).

But by Tuesday afternoon, as U.S. regulators struggled to figure out what caused the meltdown and craft ways to avoid a repeat, Chicago exchange industry leaders shot down theories that singled out the Windy City.

In a statement to Reuters, CBOE said it had extensively analyzed trades and found “nothing to suggest any trades at CBOE caused the market to drop last Thursday.”

Executives of CME Group Inc (CME.O) argued that not only was CME not to blame, it should actually get credit for reversing the sell-off.

“You’ve got to remember, New York was always the center of finance and Chicago came along, I like to think in 1972, and created a new center, and that may create some jealousies,” Leo Melamed, a former chairman of the Chicago Mercantile Exchange and the senior director on the CME board, told Reuters.

Melamed, who drove the invention of CME’s now-dominant financial futures in 1972, said in an interview that he pushed built-in limits on electronic trading to guard against the kind of sudden plunge on May 6 that scared investors globally.

Exactly such a trading "stop" kicked in last Thursday, when CME's futures contract tracking the Standard & Poor's 500 index .SPX swooned at about 2:45 p.m. Eastern time, according to details released on Tuesday.

“We put in safeguards in our system long before the rest of the world even considered doing so,” Melamed said. “It did work and function exactly as we hoped it would, and in this instance provided an actual break on the fall, and I believe began to turn the market around.”

SAFETY VALVE?

The safeguard, a five-second pause, gave traders time to breathe. When the stop was lifted, the contracts surged, CME Executive Chairman Terrence Duffy said in Congressional testimony on Tuesday.

“We have identified no trading activity that appeared to be erroneous or contributed to the break in the cash equity market during this period,” Duffy said in his prepared testimony.

But Duffy’s comments by no means ended the blame game.

In his Tuesday testimony, Eric Noll, executive vice president of Nasdaq OMX (NDAQ.O), pointed to “unusually heavy” trading volume in the CME’s electronically traded E-Mini S&P futures contracts. For details, see [nN11127125].

Back in Chicago, traders said a huge bearish option bet at the CBOE, singled out as a potential trigger for the plunge, could not have started the cascade of selling that caused the sudden 1,000-point drop on the Dow Jones Index on Thursday.

The purchase of 50,000 put option contracts in the S&P 500 index at the 800 level for June expiration was placed by hedge fund Universa Investments LP, The Wall Street Journal said.

Data from option analytics firm Trade Alert confirmed that the block was bought for $7.5 million late on Thursday when June S&P 500 futures were near the 1,135 level.

“Yes, it was an impressive trade. But it was not big enough to move the market on its own on Thursday,” Trade Alert President Henry Schwartz said.

Options market makers on the other side of such a bet typically hedge by selling the E-mini S&P futures at the CME.

The put options trade was made around 2:15 p.m. Eastern time, according to the Journal; the sell-off in CME’s mini contracts peaked at 2:45 p.m.

“If guys were hedging with the minis or the large S&P futures contract to offset that put trade, it would be hard to believe that they would wait a half hour to hedge that trade, said Al Greenberg, head floor option trader at broker-dealer BNY ConvergEx Group.

“Just because the biggest option exchange and the biggest futures exchange are in Chicago, it is sort of natural that people would point the finger here for the cause of Thursday’s sell-off,” he said.

Universa declined to comment directly on the trade.

“Universa is not in the business of causing crashes but is rather in the business of protecting its clients from them,” said Universa chief investment officer Mark Spitznagel in an email to Reuters. Universa is located in Santa Monica, California. (With additional reporting by Herb Lash in New York and Angela Moon in Chicago; Editing by Leslie Adler)

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