Most Mondays we all just want to ease into the week, uneventfully.
But on one particular Monday, a large
overnight selloff in the Chinese equity
market had many market observers antic-
ipating a less than smooth start to Aug.
24, 2015. Shortly after the opening bell,
the Dow Jones Industrial Average Index
tumbled 6% and the S&P 500 Index fell
5%. Many stocks dropped more than 20%.
Shortly after, the Chicago Board
Options Exchange Volatility Index or VIX
spiked to an intraday high of 53 — its high-
est recorded level outside of the 2008-09
financial crisis, according to Bloomberg
(Aug. 24, 2015). If it hadn’t already, the
extraordinary nature of the situation hit
home when the New York Stock Exchange
invoked the rarely then used Rule 48.
Designating an extreme market vol-
atility condition, Rule 48 suspended
the requirement that stock prices be
announced before trading commenced.
The idea was to speed up the market’s
open and mitigate some of the volatility.
But complicating matters, stock
exchange volatility rules, created after the
2010 Flash Crash, went into effect as well.
As a result, trading on about 100 stocks
and 300 exchange-traded funds was temporarily halted, sometimes repeatedly.
WALKING A TIGHTROPE
Under normal market conditions
Authorized Participants, typically large
financial institutions, will act as arbitragers when an ETF’s price diverges
from its net asset value.
However, on that day, APs largely were
flying blind due to dozens of halted stocks
and limited price information. Without
accurate reads on the prices of the underlying basket of securities, many ETF market makers widened their spreads — the
difference between their buying and selling price — or withdrew bids entirely.
The result was an irregularly thin market combined with a backlog of orders
piling up during the halts, which caused
some ETFs to trade more than 40% away
from their NAVs, many of which were
down to a lesser degree. (See research
HOW TIMES HAVE CHANGED
About six months after that frenetic
Monday opening, the NYSE took several
steps to prevent another one. It started
by eliminating Rule 48. More important-
ly, the NYSE improved its dissemina-
tion of opening imbalance information
by offering greater transparency to the
market, improving opening procedures,
Thereafter, the NYSE, along with
Nasdaq and Bats, enhanced their limit-
up/limit-down (LULD) rules to better
handle openings across all the exchang-
es when a security hits a “circuit break-
er.” LULD now uses the prior trading
session’s close price for the reference on
the next session’s LULD bands.
Before that, the midpoint between the
opening bid/ask prices was used, which
could have thrown off trading band
numbers. The new rules eliminate the
time periods when securities can trade
without LULD bands in place. They also
standardize automated re-openings after
a trading halt and erroneous execution
rules when LULD bands are in effect.
PUT TO THE TEST
Later that week of Aug. 24, 2015, the
market and VIX stabilized and liquidity returned to more normalized levels.
The experience demonstrated that we
needed better exchange rules to ensure
liquidity and orderly halts/reopens during periods of extreme volatility.
Fortunately, the market’s formal
and informal responses to extraordinary events — such as the Brexit vote
and the surprising outcome of the US
elections — seem to have improved since
then with refined volatility-induced
rules and better communication among
Jon Maier is chief investment officer of Global
By Jon Maier
How Exchange Rules Can Ease Turbulent Markets
Aug. 24, 2015, was no ordinary Monday in market lore, and led to helpful
new rules to reduce market stress
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