Did Faulty Software Shut Down the NASDAQ?

This past Thursday, the NASDAQ stock exchange shut down for just over 3 hours due to some technical problems. It’s still not clear what the problem was because NASDAQ officials are being tight-lipped. NASDAQ has had a bad run of problems recently, the most visible was the botching of the Facebook initial public offering.

Stock trading these days is a highly technical business involving complex algorithms and multiple exchanges spread across the country. Poorly coded software or just plain old bugs have the potential to take down an entire exchange and paralyze parts of the financial system for hours.

Mary Jo White, the Chairman of the SEC is apparently getting involved.

Thursday evening, Ms. White said in a statement that the paralysis at the Nasdaq was “serious and should reinforce our collective commitment to addressing technological vulnerabilities of exchanges and other market participants.”

She said she would push ahead with recently proposed rules that would add testing requirements and safeguards for trading software. So far, those rules have faced resistance from the exchange companies. Ms. White said that she would “shortly convene a meeting of the leaders of the exchanges and other major market participants to accelerate ongoing efforts to further strengthen our markets.”

Having testing requirements for trading software is an interesting idea. It’s easy to see why the industry would be against it. Trading is a fast moving business and my guess is software is updated/modified constantly to improve performance or to provide people and edge. If you had to get approval or run a bunch of tests every time you wanted to deploy something, you’d quickly get behind the curve.

But is there an issue of safety here? If a small bug in the computer code on which the exchange relies can take down the entire system for hours, isn’t that a problem of “financial safety”? Other problems, like the notorious “flash crash” of 2010 where the Dow Jones Industrial Average dropped 700 points in minutes, have the potential to affect regular people, not just hedge fund traders.

It’s not unprecedented to subject computer code to higher scrutiny. Code that flies airplanes or runs air-traffic control systems is all tested and reviewed rigorously before being put into production and I think most people would consider that reasonable. Are financial markets the next area? What about scientific research?