Does circuit breakers traders act as a safest guard in online trading
A circuit breaker is a fundamental concept wherein trading is frozen for a few hours, or in a worst case scenario, the day’s trade is suspended for a stock if its value increases beyond or decreases below a predetermined value, which is calculated based on the previous day’s closing price. Circuit breakers are specific to exchanges, wherein, the percentage change in value after which it gets activated varies with stock exchange while some stock exchanges may not even have this concept. E.g., Bombay Stock Exchange has an upper circuit breaker of 20% and a lower circuit breaker of 10%. If a security closes at Rs.200 on a day and if the stock reaches Rs.240 on the next day, then the circuit breaker is auto activated and online trading of that stock is halted. Similarly, if the stock falls to Rs.180, again trading is halted.
The National Stock Exchange has a more complicated approach towards circuit breaker rules. They are similar to that of New York Stock Exchange (NYSE). It has got three different circuit breaker limits: 10%, 20% and 30% of the previous day’s closing stock price. Trade freeze duration also depends on the time of the day when the breach takes place.
For a 10% decline in price before 2 PM, the freeze would be for an hour and for the same decline between 2 PM and 2:30 PM, the halt would be for half an hour and no halt for 10% decline if it occurs after 2:30 PM. For a 20% decline, halt in online trading will be for two hours in case it happens before 1 PM, for an hour if it occurs between 1 PM and 2 PM and if it occurs after 2 PM, market would be suspended for the day. In case of a 30% decline, online trading would be suspended for the day, whenever the breach occurs.
The main reason behind the circuit breakers is to control the risk of panic selling. Freezing operations for a while gives the traders, time to think over their various options and to reconsider their trading decision. As a result of circuit breakers, especially to avoid them, share market traders trade at or slightly above the lower circuit limit and at slightly below the upper circuit limit. Hence it helps in regulating the prices of shares.
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Moreover, as share markets are rapidly changing day by day, circuit breaker categories and levels also change simultaneously. This is to keep up with the changing online trading sentiments and better regulation. Different circuit breaker levels are set for different individual stocks and the overall key index of the stock exchange. For example, apart from day to day fixing of limits for individual stocks, NYSE also sets limits on its key index Dow Jones Industrial Average for a particular quarter based on its value during the month preceding the start of that quarter.