The pilot programme for market-wide circuit breakers currently running in the US equity markets is likely to be extended past its current shut-off date of 11 April, but there will be no immediate shift to a ”limit up/limit down approach'.
The scheme, which halts trading in an individual stock for five minutes in the event of its value falling or rising by 10% or more in the previous five-minute period, was first introduced in June 2010 and had originally been scheduled to terminate on 10 December.
A spokesperson for the Securities and Exchange Commission (SEC) said the US securities regulator expects stock exchanges and the Financial Industry Regulatory Authority (FINRA), the independent regulatory body for US securities firms, to file to extend the pilot beyond 11 April. “Staff expect the rules will remain in place while the exchanges and FINRA continue to consider progressing to limit up/limit down-style trading parameters,” the spokesperson said.
A limit up/limit down approach prevents trades taking place outside specified price parameters, rather than halting trading in a stock altogether.
“Limit up/limit down makes sense,” said Joe Saluzzi, co-head of the trading desk, at US agency broker Themis Trading. “It's a more dynamic style of breaker and I think people should be allowed to trade within that band – it's a better way of doing it.” Saluzzi suggested that the urgency of other regulatory priorities might slow the introduction of a more flexible circuit breaker regime. “Given the level of work they have over there it wouldn't shock me if there was a delay,” he explained.
In a speech to trade body SIFMA's Compliance and Legal Society Annual Seminar on 23 March, SEC chairman Mary Schapiro suggested that a proposed rule change, proposed by FINRA and exchanges, was near to completion. “I expect it to be filed with the commission and published for comment in the near future,” she said, adding that the SEC was also working with the Commodity Futures Trading Commission (CFTC), the US derivatives regulator, on an initiative to update market-wide circuit breakers. “We are particularly interested in whether there are ways to make these circuit breakers more meaningful and effective in today's fast electronic markets,” she said.
Limit up/limit down rules were recommended by a recent report into the 6 May ”flash crash' of 2010, written by a joint committee of the SEC and CFTC. The existing circuit breakers are proving too restrictive, completely freezing trading in a security, even after contra-side liquidity has returned to the market, the report noted. “This has been particularly problematic in a number of situations in which a single erroneous trade triggered the pause. Similarly, pauses do not fully address the impact of an erroneous trade because they do not prevent the execution and reporting of that initial triggering trade, allowing potential trade prices to be reported considerably below or above the price that triggered the pause,” the committee wrote.
By contrast the limit up/limit down procedures would require the market to enter a ”limit state' in the event that a stock moves by a certain percentage in a five-minute period. From that point, executions could not take place outside of a specified price band. Under these procedures, the market could exit the limit state when contra-side liquidity appears at a price above the limit price. The committee recommended that limit up/limit down price bands would be based on a reference price that reflects VWAP or another average price calculation over the preceding five minutes.