Circuit Breaker

Loading the player...

What is a 'Circuit Breaker'

Circuit breakers are measures approved by the SEC to curb panic-selling on U.S. stock exchanges and excessive volatility – large price swings in either direction – in individual securities. Also known as "collars," circuit breakers temporarily halt trading on an exchange or in individual securities when prices hit pre-defined tripwires, such as a 13% intraday drop for the S&P 500, or a 15% rise in a company's share price over five minutes. 

BREAKING DOWN 'Circuit Breaker'

Regulators put the first circuit breakers in place following the market crash of October 19, 1987, when the Dow Jones Industrial Average (DJIA) shed 508 points, or 22.6%, in one day. The crash, which began in Hong Kong, affected markets all over the world, and has come to be known as Black Monday.

A second incident, the flash crash of May 6, 2010, saw the DJIA lose 998.5 points, or over 9%, in just ten minutes. Prices recovered—or very nearly—before market close, but the failure of post-1987 circuit breakers to halt a fat-finger trade and the panic it caused led FINRA​, the exchanges and the SEC to develop a new market-soothing regime. (The "fat-finger trade" theory, which posited that an inattentive trader had typed too many zeros and thus placed a gargantuan sell order, later proved false. London-based trader Navinder Singh Sarao is thought to have caused the crash through the use of spoofing algorithms, but his alleged role was not revealed until his arrest in April 2015, after the current circuit breakers were put in place.)

Market-Wide circuit breakers

In effect since February 2013, market wide circuit breakers respond to single-day declines in the S&P 500 Index: if the index falls to 7% below its previous close, this is known as Level 1; Level 2 is a 13% drop; Level 3 a 20% drop. Level 1 or 2 will halt trading on all exchanges for 15 minutes, unless it occurs at or after 3:25 pm, in which case trading is allowed to continue. Level 3, whenever it occurs, will halt trading for the remainder of the trading day (9:30 am to 4:00 pm). Before these rules were in place, the DJIA was the benchmark, and the thresholds were 10% (Level 1), 20% (2) and 30% (3).

Single-Stock Circuit Breakers

Unlike their market-wide counterparts, single-stock curbs go into effect whether the price moves up or down. Also note that other exchange-traded products, such as ETFs​, fall under the "single-stock" umbrella, making the the commonly used name for the rule slightly misleading. Since October 2013, the SEC has used a "limit-up limit-down" mechanism to determine the thresholds for acceptable trading. Halts are triggered by up-or-down moves outside of certain bands, determined based on the security's price and listing:

Acceptable up-or-down trading range (9:45 am-3:35 pm) Acceptable up-or-down trading range (9:30-9:45 am and 3:35-4:00 pm) Security price, listing
5% 10% Tier 1 National Market System (NMS) securities: S&P 500- and Russell 1000- listed stocks, some exchange-traded products; price greater than $3.00 (price > $3.00)
10% 20% Tier 2 NMS securities: other stocks priced over $3.00 (p > $3.00)
20% 40% Other stocks priced greater than or equal to $0.75 and less than $3.00 ( $0.75 ≤ p ≤ $3.00)
Lesser of 75% or $0.15 Lesser of 150% (upper limit only) or $0.30 Other stocks priced less than $0.75 (p < $0.75)

If trading outside of these bands persists for 15 seconds, trading is halted for five minutes. The reference price is calculated using the average price over the previous 5 minutes. The maximum allowed pause is 10 minutes, and the bands are doubled during the opening (9:30-9:45 am) and closing (3:35-4:00 pm) periods of the trading day. 

Black Monday Redux

On August 24, 2015, global markets swooned again, leading China's state media outlet Xinhua to declare another "Black Monday." Trading in individual U.S. stocks and ETFs paused more than 1,200 times, but the circuit breakers that were supposed to safeguard market stability arguably backfired. Some ETFs tracking major indices, such as the iShares Core S&P 500 ETF (IVV), could not obtain pricing information because of the trading halts and fell far below the indices they tracked. The S&P 500 hit an intraday low 5.00% below its open, but the iShares Core S&P 500 ETF fell 21.91% below its open before recovering. Credit Suisse estimates that, on that date, 42% of trading volume was in ETFs, so their vulnerability to curb-induced departures from fair value could pose a danger in the future. The SEC's commissioner has said the regulator would look into modifying the rules to account for this situation.

RELATED TERMS
  1. Trading Curb

    A temporary restriction on program trading in a particular security ...
  2. Fast Market Rule

    A rule in the United Kingdom that permits market makers to trade ...
  3. Deal Breaker

    An issue that, if left unresolved, prompts one party to discontinue ...
  4. Circuitism

    A macroeconomic explanation of how banks create money for production ...
  5. Black Monday

    October 19, 1987, when the Dow Jones Industrial Average (DJIA) ...
  6. Stock Market Crash

    A rapid and often unanticipated drop in stock prices.
Related Articles
  1. Markets

    Why China Is Suspending Market Circuit Breakers

    Chinese regulators have announced that beginning on January 8th, circuit breakers used to halt its stock markets will be suspended in order to "smooth" trading operations.
  2. Markets

    What's a Circuit Breaker?

    A circuit breaker is a measure taken during large stock exchange selloffs to avert panic selling.
  3. Investing

    What is Rule 48?

    Rule 48 is a tool used by market operators to expedite trading in the opening hour, during periods of extreme volatility.
  4. Markets

    4 Consequences of Government Intervention in China's Markets

    Find out how China's intervention into its stock markets has caused unintended consequences that may be worsen its economic crisis.
  5. Markets

    What Happened On Black Monday?

    On October 19, 1987, the Dow Jones dropped 508 points, or almost 22% in a single day. That was Black Monday.
  6. Markets

    Will China Slip Into a Recession?

    The Chinese economy is an entanglement of many factors gone wrong: an overvalued, engineered stock market, slow GDP growth and a devalued currency. What happens next and what will be the global ...
  7. ETFs & Mutual Funds

    Did ETFs Cause The Flash Crash?

    On May 6, 2010, the DJIA plunged 998.5 points in twenty minutes. Find out more about what happened that day.
  8. Markets

    The Two Biggest Flash Crashes of 2015

    A flash crash occurs when prices plunge in minutes, and then often recover just as quickly. Here are two major flash crashes that occurred in 2015.
  9. Markets

    Gloom and Doom for Global Markets in 2016?

    Learn about the volatility in global markets during the beginning of 2016. See why famous investors are saying some economies could see recessions.
  10. Markets

    There are some serious challenges that the Chinese stock market needs to address.

    The good news for China is that it has its first major market correction under its belt. The bad news is that the government has set a very hands-on precedent for future market events.
RELATED FAQS
  1. What happens when a circuit breaker is put into effect?

    A circuit breaker represents a situation where the Securities and Exchange Commission (SEC) and National Association of Securities ... Read Answer >>
  2. How many components are listed on the Dow Jones Industrial Average?

    Learn how many components comprise the Dow Jones Industrial Average and understand the stock index's origins and how it is ... Read Answer >>
  3. What is Black Monday?

    Monday October 19,1987, is known as Black Monday. On that day, stockbrokers in New York, London, Hong Kong, Berlin, Tokyo ... Read Answer >>
  4. During a disastrous trading day on the NYSE, the DJIA is down by 21% (a Level 2 ...

    The correct answer is d. A Level 2 decline (20% -30%) after 2pm requires closing the market for the rest of the day. There ... Read Answer >>
  5. When do stock market exchanges close?

    Learn about stock exchanges, the main function of stock market changes and the opening and closing times of some major stock ... Read Answer >>
  6. During what time does after-hours trading (AHT) occur?

    A lot of buying and selling can be done outside of the traditional trading hours. Find out when after-hours trading starts ... Read Answer >>
Hot Definitions
  1. Dove

    An economic policy advisor who promotes monetary policies that involve the maintenance of low interest rates, believing that ...
  2. Cyclical Stock

    An equity security whose price is affected by ups and downs in the overall economy. Cyclical stocks typically relate to companies ...
  3. Front Running

    The unethical practice of a broker trading an equity based on information from the analyst department before his or her clients ...
  4. After-Hours Trading - AHT

    Trading after regular trading hours on the major exchanges. The increasing popularity of electronic communication networks ...
  5. Omnibus Account

    An account between two futures merchants (brokers). It involves the transaction of individual accounts which are combined ...
  6. Weighted Average Life - WAL

    The average number of years for which each dollar of unpaid principal on a loan or mortgage remains outstanding. Once calculated, ...
Trading Center