The US’s major exchanges have adopted a standard set of rules for cancelling ‘clearly erroneous’ stock trades – those which deviate so substantially from current market prices that they are deemed to be mistakes.
The new rules, approved by the US Securities and Exchange Commission (SEC) yesterday, allow an exchange to consider cancelling a trade only if the price exceeds the consolidated last sale price by more than a specified percentage: 10% for stocks priced under $25; 5% for stocks priced between $25 and $50 and 3% for stocks priced over £50. In addition, venues must start the review process within 30 minutes of the trade and resolve it 30 minutes thereafter.
The exchanges using the rules are BATS Exchange, Chicago Board Options Exchange, Chicago Stock Exchange, International Securities Exchange, Nasdaq Stock Market, Nasdaq OMX BX, National Stock Exchange, New York Stock Exchange, NYSE Amex, and NYSE Arca. Equities trading venue Direct Edge has also adopted the rules.
The SEC contends that, because today’s stock markets are highly automated and interconnected, an erroneous trade at one exchange can trigger a wave of further errors at others.
Before the adoption of the new rules, policies for cancelling clearly erroneous trades varied by exchange. According to the SEC, some terminated trades only if the price exceeded an objective threshold based on the preceding market price, but others based their decisions more heavily on the subjective judgement of exchange officials. There were also variations in the start and completion times for the review process.
The challenges posed by these inconsistencies became particularly evident in the period of high stock market volatility in Q3-Q4 last year following the collapse of US investment bank Lehman Brothers, which the SEC said prompted a substantial increase in the number of erroneous trades.
To improve consistency, the exchanges, led by NYSE Arca, worked with SEC staff to develop the new, more objective standards.
“Adopting consistent standards across exchanges for breaking trades will strengthen the resiliency of our markets by reducing the potential for market confusion, especially during periods of high market volatility,” said SEC chairman Mary Schapiro in a statement. “These changes will promote the orderly and efficient operation of our markets.”