Monday December 14 2015
News Source: Global Exchanges
Focus: Trading Systems and Technology
Type: General
With the approval of China Securities Regulatory Commission, Shanghai Stock Exchange (SSE), Shenzhen Stock Exchange (SZSE) and China Financial Futures Exchange (CFFE) issued the relevant regulations on circuit breakers on December 4, 2015, which will be effective as of January 1, 2016.
The introduction of the circuit breaker mechanism is an important institutional arrangement to further enhance the trading mechanisms of China securities and futures markets, maintain market order, protect investors’ interests and promote the long-term, steady and sound development of the capital market.
Circuit breaker durations
The solicitation reveals that investors generally think that the 30-minute halt is too long. In order to minimize impact on market liquidity while allowing the circuit breaker mechanism plays its role, the three exchanges reduced the 30-minute duration for triggering the 5% threshold to 15 minutes while retaining the arrangement of halting trading to the market close after triggering the 5% threshold during the market close session or after triggering the 7% threshold at any time of the whole day.
Connection with the existing daily price limit system
Some market participants said that, given that the existing daily price up/down limit system is to be retained, there is no need for introducing circuit breakers. They suggested relaxing or scraping the daily price limit system for individual stocks and introducing circuit breakers for individual stocks. A study by SZSE showed that the circuit breaker mechanism and the daily price limit system are similar in nature as they are both short-term price stabilization measures. However, they are somewhat different in the objects they apply to as well as in working principle. The daily price limit system sets a limit on the price movement of individual securities and is designed to avoid sharp price fluctuation of individual securities. Under the daily price limit system, securities can still be traded at the daily price limit. In contrast, the circuit breaker mechanism halts trading of the whole market for a period of time when the movement of the market benchmark index exceeds a specified limit to avoid over-reaction of the market. When the relevant threshold is triggered, all the securities within the circuit breaker scope will be halted temporarily during the circuit breaking period. This year’s unusual market volatility indicates that the daily price limit system alone is unable to stabilize the market under extreme circumstances and that it is highly necessary to introduce the circuit breaker mechanism. In addition, as the daily price limit system is a basic institutional arrangement in China securities market, relaxing or scraping the system is improbable in the short run as that will have effect on the existing institutional arrangement such as the settlement risk management system, risk controls in leverage business, and market surveillance indicators and will also have significant effect on investors’ trading practices. The three exchanges will continue to enhance the relevant trading mechanism by taking into account the implementation results of the circuit breaker mechanism and striking a balance between the reform momentum and pace and the market acceptability so as to promote the steady and sound development of the capital market.
Thresholds
Some market participants said that the existing thresholds are too low and may be triggered frequently and that the interval between the two thresholds is too narrow and thus may be triggered consecutively. They suggested setting only one threshold or raising the threshold to 6% to 8% or considering expanding the gap between the existing thresholds. In SZSE’s opinion, given that the existing 10% daily price up/down limit is to remain, they have limited options for circuit breaker thresholds. The current two thresholds of 5% and 7% are put forward by the three exchanges on the basis of their analysis of the historic data over the past 11 years. Of the two thresholds, the first threshold of 5% can meet both the needs of providing a cooling-off period and maintaining normal trading. Though the second threshold of 7% is seldom triggered, it should also be considered as major abnormal situations so as to stem continued extreme market movements such as drastic advances and declines.
Selection of benchmark index
Some market participants said that CSI 300 Index does not reflect the price movement of small- and mid-cap stocks. Often, the circuit breakers benchmark index selects highly representative, influential and anti-manipulative index. CSI 300 Index has all such features. Compared to a single-market index, CSI 300 Index can better reflect the overall movement of the A-share market. Moreover, its coverage of market capitalization and the number and sizes of the products tracking the index are all high compared with other indices.
Two-way circuit breakers
Some market participants suggested setting a circuit breaker only for market price declines. In SZSE’s opinion, the two-way circuit breaker is more conducive to curbing over-trading and controlling market volatility. As the domestic market is dominated by retail investors, sharp two-way price fluctuations have led to not only slumps in panic selling but also precipitous rises, including short-term dramatic rises caused by accidents. Thus, when the market encounters steep rises, the circuit breaker mechanism is needed to stabilize the market sentiment, prevent the investors’ over-reaction to market rises and give more time for the investors to further determine whether the current prices are reasonable or not.
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