SEC Approves Rules To Avoid 'Flash Crash'

by Glen Shapiro, LawAndTax-News.com, New York

16 September 2010

The United States Securities and Exchange Commission (SEC) has approved new rules to expand a recently adopted circuit breaker programme which was approved in June in response to the market disruption of May 6 this year.

The Flash Crash, as it is called, was a stock market crash involving US corporate stocks, followed by an almost immediate rebound. It was the biggest point decline, almost 1,000 points, on an intraday basis in the Dow Jones Industrial Average’s history.

The SEC also approved new exchange and FINRA rules that clarify the process for breaking erroneous trades.

The circuit breaker pilot programme currently applies to stocks listed in the Standard & Poor’s 500 Index. Trading in a security included in the programme is paused for a five-minute period if the security experiences a 10% price change over the preceding five minutes. The pause gives the markets an opportunity to attract new trading interest in an affected stock, establish a reasonable market price, and resume trading in a fair and orderly fashion.

The circuit breaker program is in effect on a pilot basis up to December 10, 2010. It currently applies to stocks listed in the Standard & Poor’s 500 Index. It will now also include all stocks in the Russell 1000 Index and certain exchange-traded products. The SEC anticipates that the exchanges and FINRA will begin implementing the expanded circuit breaker programme shortly.

The SEC also approved new exchange and FINRA rules that clarify the process for breaking erroneous trades. The erroneous trade rules were also developed in response to the market disruption of May 6. The rules will make it clearer when, and at what prices, trades will be broken by the exchanges and FINRA. As with the circuit breaker programme, these rules will be in effect on a pilot basis up to December 10, 2010.

By establishing clear and transparent standards for breaking erroneous trades, the new rules should help provide certainty in advance as to which trades will be broken, and allow market participants to better manage their risks.

"These circuit breakers and this more objective guidance on breaking erroneous trades will help our markets retain the confidence of investors and companies," said SEC Chairman, Mary L. Schapiro. "We have worked quickly with the exchanges to take these steps, and we will continue to be very focused on addressing weaknesses exposed on May 6."

At Schapiro's request, the SEC staff is also considering whether market makers should be subject to more meaningful obligations to promote fair and orderly markets; working with the exchanges to prohibit the use by market makers of "stub" quotes that are not intended to indicate actual trading interest and studying the impact of multiple trading protocols at the exchanges, including the use of trading pauses and self-help rules.

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