You might have not heard about this because many are trying to keep this issue as quiet as possible but the US government launched some official investigations into recent security breaches into the Nasdaq’s networks. What is currently being said is that the hackers were not able to gain access to any of the trading machines and did not have any impact on the markets themselves but there is no doubt that such news brings to reality many scenarios that could be very very serious not only for traders but for the entire economic system. It is a very complex issue and we could discuss it for an entire day without even getting a complete picture but we decided to take a look at what this could mean and why it matters.

Why would someone try to gain access?

–Terrorism: The reason most often discussed by the media and politicians is terrorism. As terrorists have proved in the past, one of their main goals is causing fear and uncertainty and that could happen very quickly. Provoking a crash or even the possibility of one would be enough for many investors to lose their confidence in the markets, the banking system and perhaps much worse. Since our system is based on trust more than anything else, it could have very severe consequences on the US economy.

–Financial gain: No doubt, someone able to get access to the trading network would be able to do a variety of things that could result in major financial gains for the criminals, gains that would be offset by the general public, often without them even knowing about it.

How?

–Fake orders: Once a hacker gains access, the easiest way to not get caught would be not post actual trades but rather only post flash orders. These orders can have a similar effect anyway as they can indicate that certain market participants have big orders to execute in one stock or even the entire stock market. Keep in mind that the bigger the attempt, the better the chances are of getting caught but also of that discovered vulnerability being found.

–Trades: No doubt, if one hacker gains access to the network, he could make orders on behalf of a selected or many different market participants in an attempt to manipulate the market in one direction or another.

–Crashes: We saw in May last year just how fast a flash could be created. Thanks to ETF’s, a single order (to sell a broad based ETF) can create hell if it is big enough and done quickly enough. Sell 100,000,000 shares of SPY and you will see the market tank

Is it already happening?

This is the difficult question isn’t it? The thing is that the smarter the hacker, the more difficult it will be to find. Someone attempting to create chaos would likely go for one big event. But a smarter more sophisticated hacker acting for financial reasons would likely do very small actions, enough to make millions, without generating too much attention to himself making it very difficult to catch them. The other thing to keep in mind is that like all other network security breaches, it is unlikely that we would hear about them as the exchanges do not want to create panic, or to encourage new hackers to try as well.

What to do?

I would personally think that one of important things is to avoid intra-day stop loss orders that could be triggered if something went wrong. Often, markets can be wild during the day only to recover after a few minutes or hours. Do not get caught during a mini-crash.