Circuit Breakers, Curbs, and Other Restrictions

There are times in which panic can break out on the market because of large ranges of movement on the stock market. Stocks can move too far in one direction, which is why panic can be induced. When the market moves up, there are some that will rejoice, while others begin to become quite nervous, especially when investing in options. Depending on their investment, a move too far in the upward direction can cause them to owe money rather than make it.

Circuit Breaker

A circuit breaker is a term that is used when large sell-offs occur on the market. It is necessary for measures under the term "circuit breaker" to be used in order to keep people from selling out of panic. This can also be called a "collar."

An example of a circuit breaker is this: An index has fallen a certain number of percentage points, so what the exchange may do is place restrictions on program trading or halt trading. For instance, the Dow Jones Industrial Average may fall 10%, so the New York Stock Exchange or Chicago Board Options Exchange may stop trading activity for an hour and then resume trading.

There are circuit breakers that are put in place at other percentages. If the market falls 20% or 30%, there are different strategies put in place for those percentages. It is important to use different strategies based on the percentage the market has dropped because the drop percentage is usually due to different causes. It is important to do what is necessary to stop and reverse the cause of a drop so that investors are protected and so that the economy does not crash. Some strategies have been enacted since the great market crash that caused the Great Depression.

Curbs

There are two terms that are used when it comes to curbs and those terms are "curbs in" and "curbs out." Curbs in means that trading curbs are currently active, which means that there have been restrictions put in place on trading a certain security. Trading has simply been suspended at the moment.

The main purpose of curbs is to reduce any sudden and unexpected movement in security price. This helps reduce the market's volatility. It is even believed that curbs help to reach equilibrium when it comes to price because of the impact this has on market volatility. If curbs were taken out, analysts believe that the price would be allowed to rise or fall to a level that is determined by the market.

When curbs are no longer active, the term "curbs out" is used. Since curbs are temporary, they are enacted for a very short period of time. Once "curbs out" is declared, trading can occur as usual. If curbs in must be declared again, then it will be. There is no limit to how many times this temporary restriction can be imposed during a trading day so that control can be gained.

It is necessary to impose restrictions like circuit breakers because the market would go haywire if they didn't exist. Since the market has a tendency to be quite volatile, it is a must that the market be controlled. These restrictions, however, are not imposed lightly for the fact that the entire market or an entire sector can be affected. Nevertheless, investors are protected with these strategies as well because it is important that the market as a whole is protected as much as possible. The market has a huge impact on the economy, so it is a must that the economy be protected because it is the bread and butter of the American people.

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