What Happens To Trading During A Market Crash?

It’s hard to predict when a stock market crash will occur, so the best defense is to be prepared.

Today’s infographic comes to us from StocksToTrade.com, and it explains what happens when a large enough drop in the market triggers a “circuit breaker”, or a temporary halt in trading.

(Click on image to enlarge)

What Happens To Trading in a Market Crash?

These temporary halts in trading, or “circuit breakers”, are measures approved by the SEC to calm down markets in the event of extreme volatility. The rules apply to NYSE, Nasdaq, and OTC markets, and were put in place following the events of Black Monday in 1987.

CIRCUIT BREAKER RULES

Previously, the Dow Jones Industrial Average (DJIA) was the bellwether for such market interventions.

However, the most recent rules apply to the whole market when a precipitous drop in the S&P 500 occurs:

  Before Feb 2013 After Feb 2013
Index Tracked DJIA S&P 500
Level 1 Threshold -10% -7%
Level 2 Threshold -20% -13%
Level 3 Threshold -30% -20%

Upon reaching each of the two first thresholds, a 15-minute halt in trading is prompted. This is the case unless the drop happens in the last 35 minutes of trading.

Upon reaching the third threshold (-20% drop in S&P 500), the day’s trading is stopped altogether.

CAN CIRCUIT BREAKERS STOP A MARKET CRASH?

In theory, the use of circuit breakers can help curb panic-selling, as well as limit opportunities for massive gains (or losses) within a short time frame. Further, by creating a window where trading is paused, circuit breakers help make time for market makers and institutional traders to make rational decisions.

Regulators and exchanges hope that all of this together will give investors a chance to calm down, preventing the next market crash.

But do circuit breakers actually work? While they make logical sense, recent evidence from China paints a murkier picture.

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Disclosure: None.

The Chart of the Week is a weekly Visual Capitalist feature on Fridays.

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