Knight Capital's Train Wreck and the Mismanagement of Software

Last week, an error in some automated high-frequency trading software from Knight Capital Group caused the program to go seriously amok, and when the cyberdust cleared, the company was left barely alive, holding the bill for almost a half-billion dollars to cover the erroneous trades. Much of the ensuing uproar has cited the incident as rationale for additional regulation and/or putting humans more directly in the decision loop.

However, that argument is implicitly based on the assumption that software, or at least automated trading software, is intrinsically unreliable and cannot be trusted. Such an assumption is faulty. Reliable software is indeed possible, and people's lives and well-being depend on it every day. But it requires an appropriate combination of technology, process, and culture.

In this specific case, the Knight software was an update that was intended to accommodate a new NYSE system, the Retail Liquidity Program that went live on August 1. Other trading companies' systems were able to cope with the new NYSE program; Knight was not so fortunate, and, in what was perhaps the most astounding part of the whole episode, it took the company 30 minutes before they shut down the program.

By then, the expensive damage had been done.

It's clear that Knight's software was deployed without adequate verification. With a deadline that could not be extended, Knight had to choose between two alternatives: delaying their new system until they had a high degree of confidence in its reliability (possibly resulting in a loss of business to competitors in the interim), or deploying an incompletely verified system and hoping that any bugs would be minor. They did not choose wisely.

With a disaster of this magnitude—Knight's stock has nosedived since the incident—there is of course a lot of post mortem analysis: what went wrong, and how can it be prevented in the future.

The first question can only be answered in detail by the Knight software developers themselves, but several general observations may be made.

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