What Is a Market Disruption?
A market disruption is a situation wherein markets cease to function in a regular manner, typically characterized by rapid and large market declines. Market disruptions can result from both physical threats to the stock exchange or unusual trading (as in a crash). In either case, the disruption creates widespread panic and results in disorderly market conditions.
Market Disruption Explained
Following the 1987 market crash, systems were put in place to minimize the risks associated with market disruptions, including circuit breakers and price limits. These systems are designed to halt trading in rapidly declining markets to avoid panic conditions.
Different Factors That Can Cause Market Disruption
Market disruption can occur if there is a severe declined driven by fears among investors who believe certain factors may cause widespread issues that would hinder the flow of business. For example, if war threatens the safe operation of oil rigs in a region that is crucial to the industry, it can trigger worries about access to this resource. Powerful hurricanes or other natural disasters can likewise cause significant disruptions if they strike in locations that are also vital to an industry and force the halt of production indefinitely.
Political action and policy changes can also incite crashes that lead to market disruption. If federal authorities adopt a stance that is viewed as detrimental to an industry or industries, and the effects would be widespread and immediate, the market could see a rapid selloff of shares. Such political action might include changes to trade and tariffs on imports. It can also include policy changes that may lead to overall upheaval between countries. If a nation withdraws from international arms treaties, for example, it might alter the demeanor of the participating countries and create panic of deeper repercussions that could be detrimental to international trade.
The revelation of unnoticed weaknesses in the fundamentals of an economy could also drive a crash that brings about market disruption. When huge numbers of mortgage lapsed into the default, it triggered the Subprime Meltdown. The nature of the financial system meant that there was a ripple effect as the bad debt from the subprime market called into question the liquidity and health of the economy. This expanded into the Credit Crisis, which saw uncertainty rise about securitized loans and other lending practices. This period also saw the failure of major financial institutions, including Lehman Brothers.
As the underlying issues became more publicly known, it led to a market disruption in the form of the Great Recession and the subsequent stock market crash that erased some $16 trillion of net worth from U.S. households.