FINRA and the national securities exchanges propose to establish a new "limit up-limit down" mechanism to address extraordinary market volatility in U.S. equity markets.  As proposed, trades in listed stocks would have to be executed within a range tied to recent prices for that security.  If approved , the new limit up-limit down mechanism would replace the existing single stock circuit breakers, which went into effect on a a pilot basis shortly after the Flash Crash of May 6, 2010.

        Limit Up-Limit Down Requirements.   The mechanism would prevent trades in listed equity securities from occurring outside of a specified price band, which would be set at a percentage level above and below the average price of the security over the immediately preceding 5-minute period.  For stocks currently subject to the circuit breaker pilot, the percentage would be 5%, and for those not subject to the pilot, the percentage would be 10%.  The percentage bands would be doubled during the opening and closing periods, and broader price bands would apply to stocks priced below $1.00.  To accommodate more fundamental price moves, there would be a 5-minute trading pause – similar to the pause triggered by the current circuit breakers – if trading is unable to occur within the price band for more than 15 seconds.

Once approved, all trading centers - including exchanges, ATSs, and B/D's executing internally, would have to establish policies and procedures reasonably designed to prevent trades from occurring outside the applicable price bands, to honor any trading pause, and to otherwise comply with the procedures set forth in the plan.  The exchanges and FINRA have requested that the SEC approve the plan as a one-year pilot program.

        Existing Circuit Breaker Approach.   Currently, trading in a stock pauses across the U.S. equity markets for a 5-minute period if that stock experiences a 10% change in price over the preceding 5 minutes.  The pause is designed to attract new trading interest, establish a reasonable market price, and resume trading in a fair and orderly fashion.  The circuit breaker pilot was initially approved by the SEC on 6/16/10 and currently is set to expire on 8/11/11.  These breakers apply to securities in the S&P 500 Index and Russell 1000 Index, as well as certain ETF's. 

Pluses & Minuses of Circuit Breakers.  While they've been effective in moderating potentially extraordinary volatility, they've also been triggered by erroneous trades. As a result, Chairman Schapiro has encouraged the exchanges and FINRA to develop a more sophisticated mechanism that not only would prevent an erroneous trade from triggering a trading pause, but keep the erroneous trade from occurring in the first place.

Meanwhile, the SEC staff is continuing to work with CFTC staff and the markets to consider recalibrating market-wide circuit breakers currently on the books – none of which were triggered on May 6.  These circuit breakers apply across the securities and futures markets.  The proposed plan will be available on the SEC’s website. 

The Commission intends to promptly publish the proposed plan in the Federal Register for a 21-day public comment period, and then determine whether to approve it shortly thereafter.  

For further details, go to:  [SEC Release 11-84, 4/5]