Max Frumes/MEDILL
CFTC Chairman Gary Gensler, left, SEC Chair Mary Schapiro
WASHINGTON — Top regulators and officials of the options and securities exchanges further illuminated their plan to Congress Tuesday to prevent another mysterious bungee jump by the markets like that experienced last Thursday.
On that day, May 6, the Dow Jones Industrial Average dropped nearly 1,000 points before climbing back to a 348-point loss on the day. The market has gained back most of that ground, though with continued volatility. There’s consensus in the testimonies of the regulators that they need to revise across-the-market and individual stock “circuit breakers,” or levels of movement that halt trading.
What the rules are:
- There are already circuit breakers for each exchange that apply across to every exchange, but none of these took effect on Thursday. The halts are triggered by large declines – between 10 percent and 30 percent – in the Dow Jones Industrial Average. The Dow dropped only 9.16 percent from the previous day’s close on Thursday.
- Single-stock circuit breakers do not apply across the market. If one exchange stops trading in one stock because of erratic trading, it does not apply to other exchanges.
- Also, the Securities and Exchange Commission’s rules allow each market to save itself by shunning another market if it believes there are “system problems.” This “self-help” mechanism is under regulation NMS. On May 6, the Nasdaq and Bats exchanges, and Chicago’s options exchange declared self-help against NYSE.
- Commodities and options exchanges have protections stock exchanges don’t, according to Commodity Futures Trading Commission Chairman Gary Gensler. The heads of one of those exchanges, CME Group executive chairman Terry Duffy, said in his testimony the CME’s system worked. The system, called a “stop price logic,” halts the trading for five to 10 seconds after a threshold is broken. This happened last Thursday, and the futures indices to recovered, according to Duffy, even though the stock counterparts did not. While the futures “were substantially recovering, there were continued price declines in individual stocks which persisted for minutes,” Duffy said in his testimony.
What the rules would be:
- A more sensitive stop: The proposed circuit breaker would automatically halt trading in all stocks and in all markets for 15 minutes when the Standard and Poor’s 500 Index declines by five percent; or for one hour when the Index declines by 10 percent; and for the remainder of the trading day when the Index declines by 20 percent. Larry Leibowitz, the COO of NYSE Euronext, recommended “coordinated circuit breakers to address extreme and rapid swings in the prices of individuals stocks and revisiting the market-wide circuit breakers developed after the 1987 market break.”
- Single-stock circuit breakers: Harmonize single stock circuit breakers across all regulated securities exchanges and alternative execution venues in the securities markets.
- Stop price logic for stocks: SEC Chair Mary Schapiro said that the rules for the stock markets would be “broadly similar but not identical” to the stop price logic for the derivatives exchanges.
Actions taken but not in effect: In February, the Commission adopted a short sale circuit breaker. That rule is to limit short selling where a stock fell 10 percent from the previous day. Schapiro did not dismiss the notion that short sellers played a role – albeit small – in the declines on Thursday. “We must consider whether additional regulatory requirements are necessary to prevent such strategies (short selling) from threatening the fairness and integrity of the markets,” she said.