With the stock market heating up and reaching all-time highs, a long-simmering dispute over the merits of program trading and its culpability in the October, 1987, stock market crash, is boiling over once again.
The controversy has pitted retail-oriented Wall Street firms trying hard to restore the confidence of small investors against those that serve less-jittery institutional clients.
Program trading was widely depicted as a villain when the markets plunged on Black Monday, although analysts also pointed out that the crash was preceded by unfavorable economic news.
Many investors remain wary of the volatility attributed to program trading, and firms that do retail business would love to see program traders unplug their computers and disappear.
"We're against program trading because of a perception it gives to the retail customer that he has no chance, that it's a casino-type activity," says Larry Kirshbaum, chairman of Cleveland-based Prescott Ball & Turben Inc.
Prescott Ball is typical of the retail firms headquartered outside New York that have been the strongest critics of program trading.
Asked how much program trading has had to do with the recent rise of the stock market to record levels, Kirshbaum answered, "I would think quite a bit. Watching the screen you can just see a program click right in."
In the broadest terms, program trading is any computer-directed, rapid-fire trading of stocks in conjunction with stock index futures and options.
A popular form of program trading known as index arbitrage, uses computers to track stock index futures and the underlying stocks. Stock futures are contracts to buy or sell a group of stocks in an index, such as the Standard & Poor's 500.
Mostly Buy Programs
If a price discrepancy occurs, futures may be bought and stocks sold in a sell program, or vice versa, assuring a profit at expiration time.
A buy program results when futures are sold and stocks purchased. Lately, there has been a preponderance of buy programs. In either case, the sponsor of the program locks in an automatic profit.
The complex strategies are costly and elusive for individual investors, inspiring widespread antipathy among the general public. But even some stock market professionals are critical.
A trader at a large New York firm says two things that bother him about program trading are the way it can dominate the market and the feeling it creates that buying and selling is "untouched by human hands."
"Before indexes linked to baskets of stocks, stocks tended to sell on some kind of fundamental news, such as earnings, dividends, a new product or failure of a new product," said William LeFevre of Advest Inc.
Now, he said, "stocks may be bought or sold because a program dictates." But, he added, "all a program does is get the market to the point where it was going to go anyway, it just gets it there quicker."
Two weeks ago, one of the largest retail firms, Dean Witter Reynolds, a unit of Sears, Roebuck & Co., said it would no longer engage in program trading for customers. About 18 months earlier the firm ended program trading for its own account.
"We felt it undermined the integrity of the markets," a spokesman said. "We found our customers didn't like the volatile swings in the market."
Those who engage in program trading argue that their activity does not cause any unusual activity and they insist that the critics are mistaken. They cite various academic studies and argue that arbitrage serves to bring futures and stocks into a normal alignment.
The firms that do program trading find it a good way to employ capital. In a report this month Sanford C. Bernstein Co. analyst Michael Goldstein wrote that "this activity remains a very meaningful profit source" for firms.