KC / Counterparty file / retrospective

What changed after the August 3 call?

Two evidence clocks. The initial financing decision used public issuer records. A later completed financing and a much later SEC order supply facts that were not available to that decision maker on August 3, 2012.

Knowable by

Conditional reliance only

Do not rely on uninterrupted normal operations without verified financing and liquidity evidence; arrange contingency capacity. Reliance could change with current broker-dealer net-capital computations, unrestricted cash and settlement reconciliations, clearing and counterparty funding requirements, customer-flow records, and executed financing commitments demonstrating capacity through the next trading day. This is a counterparty risk decision, not an insolvency finding or legal capital mandate.

The issuer said its broker-dealer subsidiaries were in full compliance with net capital requirements on August 2 and was pursuing financing alternatives. It did not disclose the code-level mechanism then.

Established later / and

Closing, then findings

The issuer filing [KC4] reports a completed $400,000,000 cash infusion on August 6, not merely a contemplated need. The SEC order [KC5] was published October 16, 2013. Its findings describe a failed deployment and repeated child-order routing. The respondent consented without admitting or denying the findings, except jurisdiction and subject matter; findings are not a contemporaneous August 3 disclosure or an admission.

The original capital bridge

The July 18 issuer release reports June 30 balances [KC1]; the August 2 issuer update supplies the approximate pre-tax trading loss [KC2], transmitted with its current report [KC3]. The balance-sheet source columns are scaled by a factor of 1,000; figures below are full dollars.

Mechanical pre-tax comparison, not an August balance sheet
June 30 total equity, KC1$1,496,966,000
June 30 cash and cash equivalents, KC1$364,798,000
Approximate realized pre-tax loss, KC2$440,000,000
Equity less approximate loss, KC1 + KC2$1,056,966,000
“Knight has traded out of its entire erroneous trade position, which has resulted in a realized pre-tax loss of approximately $440 million. Although the company’s capital base has been severely impacted, the company’s broker/dealer subsidiaries are in full compliance with their net capital requirements. Knight will continue its trading and market making activities at the commencement of trading today. The company is actively pursuing its strategic and financing alternatives to strengthen its capital base.”Verbatim issuer update, August 2, 2012 [KC2]

Order flow, reconstructed from numbered findings

The following mechanism comes from the October 16, 2013 SEC order [KC5], especially findings 12 to 19 and 27, not from information available on August 3. Its introduction says over 4,000,000 executions and over $460,000,000 ultimately lost; finding 17 describes 4,000,000 executions and a $460,000,000 realized loss. Those differing precisions are retained below.

Source-linked dated progression of disclosures and incidentJuly 27 deployment, August 1 routing, August 2 issuer update, August 6 completed infusion, October 16, 2013 SEC order. Details and quantities appear in the adjacent ordinary HTML.July 27 · deploymentAugust 1 · routingAugust 2 · issuer updateAugust 6 · financing closedOctober 16, 2013 · SEC order
Event dates are plotted in sequence, not at a proportional time scale. Each label links to its later or contemporaneous record; the dated narrative below identifies the relevant numbered findings.
2003 and 2005 / KC5 finding 14

Old code outlived its use

Power Peg ceased use in 2003. In 2005 its cumulative-share tracking moved earlier in SMARS, without retesting Power Peg after the move. The old functionality remained callable. Finding 14.

July 27 onward / KC5 findings 12 to 17

Incomplete deployment

New RLP code for the planned August 1 NYSE launch was intended to replace Power Peg and repurposed its activation flag. Staged deployment updated 7 of 8 SMARS servers; the eighth retained old code. No second-technician review or required written review caught the omission. Findings 12 to 17.

August 1, from about 8:01 a.m. ET / KC5 finding 19

Premarket messages

Automated BNET reject e-mails identified “Power Peg disabled”; 97 reached personnel before the 9:30 a.m. ET open. They were not designed as alerts, generally were not reviewed on receipt, were not acted on before opening, and were not used to diagnose the problem afterward. Finding 19.

August 1, 9:30 a.m. ET opening / KC5 findings 16 to 17

The flagged parent orders

Orders with the repurposed flag ran correctly on the seven updated servers. On the eighth they activated defective old Power Peg. The different outcomes depend on which server received an incoming parent order. Findings 16 to 17.

August 1, about 45 minutes / KC5 findings 1, 17

Repeated routing and fills

From 212 incoming customer parent orders processed by defective code, SMARS sent millions of child orders, obtaining about 4,000,000 executions in 154 stocks for more than 397,000,000 shares. The introduction says over 4,000,000 executions. These are distinct counts: a routed child order is not necessarily an execution or a share. Routing lasted approximately 45 minutes. Introduction 1; finding 17.

August 1, during response / KC5 finding 27

Rollback worsened routing

Uninstalling new RLP code from the seven correctly updated servers caused further incoming parent orders to activate old Power Peg on those servers. The cited excerpt does not date that action more precisely. Finding 27.

Inspect the parent-to-child transition

  1. Parent order

    One customer instruction enters SMARS with the repurposed flag. The 212 affected incoming parents are not 4,000,000 customer instructions. KC5, finding 17.

  2. Child orders

    Old code on the eighth server repeatedly sends millions of child orders to trading centers without accounting for fills. Another component recognized filled parents, but did not communicate that fact to SMARS. KC5, finding 16.

  3. Executions and shares

    Trading centers executed some routing: approximately 4,000,000 executions for more than 397,000,000 shares. The finding does not say every child order executed. KC5, findings 1 and 17.

Positions, loss, and financing: different measures

Positions at the routing stop

Approximately $3,500,000,000 net long across 80 stocks, and approximately $3,150,000,000 net short across 74 stocks. These are positions by side, not realized P&L. Do not subtract these gross position values to derive trading loss. KC5, introduction 1; finding 17.

Ultimate loss

Finding 17 states a $460,000,000 realized loss on these positions. The introduction says over $460,000,000 ultimately lost. Against the issuer's initial approximately $440,000,000 estimate, the stated figures differ nominally by $20,000,000; this is not an exact revision because the first amount is approximate and the introduction uses “over.” KC5 / KC2.

Financing closed August 6

Issuer says 400,000 preferred shares sold for aggregate cash consideration of $400,000,000; the investments were completed August 6. At closing the series represented approximately 73% of outstanding common stock on an as-converted basis. The filing also describes the board committee's financial-viability-exception determination. None was knowable on August 3. KC4, Items 1.01 and 3.02.

Still not established here

The excerpts do not establish every child order's disposition, the precise stop or rollback time, or why the loss estimate changed. The issuer's August 2 net-capital statement does not settle next-day liquidity. August 6 financing confirms a completed infusion, not a certain hindsight verdict that August 3 financing was legally required.

Inspect a source transition

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Routing transition / KC5 findings 16 to 17

For 212 affected parent orders, a repurposed flag reached old Power Peg code on the eighth server. SMARS repeatedly sent millions of child orders without counting share executions, though another part of the system recognized the filled parents. Approximately 4,000,000 executions followed; the order does not say that every child order executed. Read numbered findings.

Issuer filing / August 6, 2012

Aggregate cash consideration of $400,000,000 was reported for the preferred shares. This was a completed investment on August 6, not August 3 knowledge. KC4, Item 1.01.

“The Investments were completed on August 6, 2012 (the “Closing Date”).”Verbatim issuer filing [KC4]

SEC order / October 16, 2013

The order records respondent consent without admitting or denying findings except jurisdiction and subject matter. Its numbered findings are the later account, not an admission by the respondent or a known mechanism in the initial call. KC5, part II.

“Solely for the purpose of these proceedings and any other proceedings by or on behalf of the Commission, or to which the Commission is a party, and without admitting or denying the findings herein, except as to the Commission’s jurisdiction over it and the subject matter of these proceedings, which are admitted, Respondent consents to the entry of this Order”Verbatim SEC order, part II [KC5]

Source ledger and availability