What is a trading curb?
If not major in finance or economics, you may never have heard the term “trading curb”. This Monday, however, I believe many Americans now know clearly about the term and how it works.
A trading curb, also called “circuit breaker”, is a temporary halting of trading to prevent stocks from crashing, so that the market can be stabilized, and investors will calm down.
There are 3 levels of trading curb.
Level 1 is a 7% decline of the S&P 500 Index, which will lead to a 15-minute trading halt.
Level 2 is a 13% decline of the S&P 500 Index, which will also cause a 15-minute trading halt.
Level 3 is a 20% decline of the S&P 500 Index, which will result in the closing of the stock market for the remainder of the day.
The first use of trading curb was in 1997, ten years after the introduction of the trading curb.
On Oct. 27, 1997, the Dow Jones Industrial Average declined by 550 points. This is the first time that US stock markets had closed early under the rule of trading curb.
When look back, we can trace back details and analyze causes. 1997 was the time when Asian financial crisis happened and impacted the US. In January, George Soros started selling short Thai Baht. Starting from Thailand, the entire Asian currency market was impacted, leading to a financial crisis.
It triggered a chain reaction in multiple markets in the world. Panics of global investors spread widely. Many investors sold their shares, which caused the trading curb. This trading curb didn’t last for long. One year later, the US stock hit new highs.
What about this time?
The spread of Coronavirus and the drop of crude oil price lead to the panic selling of investors. therefore, a trading curb was used.
In essence, stock market is a game of psychological expectation. If investors are confident and think positively, they will buy more stocks and the share prices will rise. If investors feel panic, they will sell as much as they have and cause stock market crash.