What is an Erroneous Trade
An erroneous trade is a stock transaction that deviates so much from the current market price that it is considered wrong. Erroneous trades are caused by a variety of factors including computer malfunctions or human error. These trades are halted, or broken, because they do not reflect the true price of the security and they can influence or cause erroneous trades on other stocks or exchanges.
BREAKING DOWN Erroneous Trade
In 2009, the Securities and Exchange Commission (SEC) approved new exchange rules that would stop erroneous trades from being executed. The SEC rules allow an exchange to break a trade if the price differs from the consolidated last sale price by more than a specified percentage amount. For example, in regular market hours, 10% for stocks priced under $25; 5% for stocks priced between $25 and $50; and 3% for stocks priced over $50. Furthermore, the review process for the erroneous trade must begin within 30 minutes of the trade, and be resolved within 30 minutes after that.
Consequences of Erroneous Trades
Today’s markets are often automated and interconnected, with trades occurring quickly. As a result, an erroneous trade on one market can quickly trigger a rapid wave of further erroneous trades across other interconnected markets. This can lead to far-reaching and serious consequences for the market. For example, if a stock last trades at $25, but a computer glitch, human error, or some other factor causes a firm to conduct a series of erroneous trades of that stock at more than $75, other exchanges’ automated systems may follow suit, spreading that erroneous trading price across other markets and affecting numerous markets and investors.
In 2010, an erroneous trade was blamed for the nearly 1,000 point drop in the Dow Jones Industrial Average. The mistake was rumored to involve E-mini contracts which are stock market index futures contracts that trade in Chicago.
In 2011, two Wall Street Exchanges, Direct Edge and Nasdaq OMX Group, announced the cancellation of dozens of erroneous trades that were executed between 4:57 p.m. and 5:05 p.m. EST on Monday, May 2. The trades involved shares of several companies in the health sector, which jumped precipitously during that day’s after-hours trading session. For example, shares of Beckton Dickinson & Co. rose from their closing price that day of $86.85 to $112.91.