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Add as preferred source Sudden, hard-to-explain market gyrations involving billions of dollars are often triggered by a lack of transparency, new academic research suggests.
The study sets out to explain recurring "flash events"—sudden, seemingly inexplicable dislocations such as the 2010 "Flash Crash," which briefly wiped nearly a trillion dollars off U.S. equity valuations in minutes before prices largely recovered. Published in the July issue of the American Economic Review , the paper questions the conventional view that such events are mainly the result of balance-sheet constraints, information asymmetries or regulatory frictions.
Lead author Giovanni Cespa, professor of finance at Bayes Business School (formerly Cass and part of City St George's, University of London), said, "These factors are sometimes part of the story, but the more basic cause is opacity—the inability of market participants to see what others are doing. Once opacity passes a certain point, markets become fragile, and an ordinary shock can tip into a crisis."
In a typical flash event, an initial shock prompts a wave of selling that is difficult to interpret. In an opaque market, other participants cannot easily tell whether that selling is a temporary need to offload risk—which should soon reverse—or the leading edge of a much larger wave that will keep pushing prices down. Unsure how much selling pressure remains, potential buyers hold back rather than step in, and a manageable shock can escalate into a sharp, self-reinforcing move.
Cespa said, "The problem need not be a shortage of capital: Potential buyers simply cannot see what is driving the market. Liquidity is increasingly provided by discretionary participants—such as hedge funds taking contrarian positions and portfolio managers willing to act as counterparties when prices overshoot."
These participants will only provide liquidity if they can make inferences about who else is trading. In a transparent market, a trader can often judge that a decline is about to reverse—and profit by stepping in.
Cespa said, "Opacity removes this signal. Unable to judge whether the selling they face is a temporary hedging need that will reverse or part of a larger, self-reinforcing wave, discretionary traders fall back on their own limited read of the market—adding to the turbulence just when markets are most stressed.
"The standard toolkit for dealing with market stress—circuit breakers, leverage caps, mandated market-making—tends to address the symptoms rather than the underlying fragility. What makes modern markets structurally vulnerable is not excessive leverage or insufficient capital, but the opacity facing discretionary liquidity suppliers."
Regulators, he says, should improve the information available to discretionary suppliers without giving predatory traders a window into others' positions.
Wider dissemination of post-trade data—along the lines of the TRACE system used in U.S. corporate bonds—would improve transparency and could reduce the risk of similar episodes in the future, he says. The U.S. Securities and Exchange Commission's proposed dealer registration rule, which would extend regulated status to some high-frequency traders, would limit their ability to withdraw strategically—though at the cost of higher participation costs and potentially thinner markets.
Separately, the "consolidated tape" recently introduced into the UK bond market will further improve transparency; a comparable tape for EU bond markets is still to be implemented. A "post-trade" consolidated tape is an electronic system that combines real-time post-trade price and volume data from multiple trading venues into a single, unified feed. The UK's Financial Conduct Authority is due to issue a policy paper on applying a consolidated tape to equity markets this week.
Giovanni Cespa et al, Market Opacity and Fragility: Why Liquidity Evaporates When It Is Most Needed, American Economic Review (2026). DOI: 10.1257/aer.20231613
Journal information: American Economic Review
Provided by City St George's, University of London
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