Circuit Breakers and Market Quality

Abstract

In March 2020, the U.S. security market experienced heightened volatility induced by the COVID-19 pandemic, and market-wide circuit breakers were triggered on four occasions. Relying on high-frequency intraday trade and quote data, we investigate the market conditions around these trading halts to shed light on the effectiveness of circuit breakers. We find that, on average, stock returns stabilize, trading cost reduces, selling pressure resolves, and prices become more informative after trading resumes from the market-wide trading halts. Moreover, we provide evidence that traders tend to hold back from aggressive trading right before the trading halts, which is inconsistent with the circuit breakers causing panic (the magnet effect). Also, when compared with single-stock halts, market-wide trading halts are associated with a more significant reduction in selling pressure and panic trading. In a subsample analysis, we document that index membership and index fund trading do not have additional impacts on market quality during trading halts. Overall, our findings point to the efficacy of the circuit breakers as a well-designed safeguarding mechanism employed by the exchanges.

Keywords: Circuit breakers, COVID-19, market quality, market-wide circuit breakers, Limit Up/Limit Down

JEL Classification: G01, G10, G14