Despite a reputation for volatility, the stock market and the individual equities that are traded on it function very smoothly. And no matter how many safeguards are in place, there is an inherent risk that occurs when buyers and sellers are free to trade stocks as they please. This is how most investors prefer things to be.
However, in rare circumstances, it has been necessary to suspend trading in a particular stock, or in even rarer occasions, the entire market. This is called a trading halt and it’s done to protect investors of all stripes from outsize losses that can occur due to a lack of transparency.
When a trading halt is in place, no buying or selling can take place. This is done so that order imbalances can be corrected. However, options may still be exercised. Trading halts provide two important benefits. First, they are a safeguard against insider trading. And second, they prevent investors from buying shares of companies that are on the verge of financial ruin.
In many cases, a trading halt is put in place prior to the market opening. This is referred to as a security being “held at open.” This is one way a trading halt is distinct from a circuit breaker. While a circuit breaker has a similar effect, it is only activated after trading begins.
What is a trading halt?
A trading halt is a temporary pause in trading of a specific equity, or equities, to give all investors (institutional and retail) the opportunity to process specific news that may materially affect the share price. This gives investors time to decide on a course of action. In this case, the stock will typically resume trading about 30 minutes after the issuing company has been released.
Trading halts are also instituted whenever the Securities & Exchange Commission (SEC) determines that there is unusual activity related to a stock’s price. This was the case in January 2021 when shares of GameStop (NYSE: GME), AMC Entertainment (NYSE: AMC), and other stocks were part of a massive short squeeze that threatened the liquidity of the trading platforms to execute the trades.
In rare occasions, United States securities law gives the SEC the authority to suspend trading in any stock for up to ten (10) days. This authority is only exercised when the commission has reason to believe the investing public will be put at risk if the stock continues to trade. For example, if the company has failed to file required documents such as quarterly or annual financial statements.
What does “Held at Open” mean?
Specifically, held at open means trading for an exchange or equity occurs before the start of trading. Many companies will wait until after the market closes to issue sensitive information. For example, many companies will release earnings reports after the closing bell.
On the one hand, this gives investors time to digest the information and determine if it is significant. But in an age of 24/7 news coverage and high-speed trading, investors will often set up buy and sell orders to be executed when the market opens. This can lead to a large imbalance between buy and sell orders prior to the market opening.
When this occurs, an exchange may delay the opening of a specific equity until a balance between buy and sell orders is in place.
How do trading halts protect investors?
Trading halts protect investors in two key ways. First, they offer protection against insider trading. One of the most common times that a trading halt is initiated is when news about a company is about to break that is likely to materially affect its share price.
Because no information is actually secret, a trading halt prevents those who have obtained that information legally the opportunity to profit, or mitigate their loss, by preventing trades to be executed before the information is announced to the general public.
A second way trading halts can benefit investors is when the SEC becomes aware that a company is experiencing significant financial difficulty that will ensure it will no longer be a going concern. In this case, a trading halt prevents money to be invested into a company that is destined to fail.
Is a trading halt the same as a circuit breaker?
A circuit breaker is a specific mechanism that is used to mitigate extreme buying or selling. It is not the same as a trading halt because it serves a different purpose. In the case of a circuit breaker, an exchange stops trading a particular equity or index if it falls or rises below pre-established levels.
There are currently three levels of circuit breakers, each resulting in specific market action. A circuit breaker will stop trading an entire index (the DJIA, NASDAQ, S&P 500, etc.) if one of the following conditions is met:
Level 1 – a 7% decline from the previous closing price
Level 2 – a 13% decline from the previous closing price
Level 3 - a 20% decline from the previous closing price
If a Level 1 or Level 2 circuit breaker is triggered, the result is an immediate suspension of trading for 15 minutes. An exception occurs after 3:25 p.m. After that time, trading is allowed to continue. If a Level 3 circuit breaker is triggered, trading will be halted for the remainder of the trading day.
Circuit breakers can also kick in on individual equities. In this case the levels/conditions are as follows:
- S&P 500, Russell 1000 or QQQ ETF - a 10% change in value of a security within a 5-minute time frame.
- A 30% change in the value of a security with a price equal or greater to $1 per share.
- A 50% change in the value of a security with a price less than $ 1 per share.
Can an investor buy shares during a trading halt?
No, when a trading halt is in place, you (or a broker) will not be able to buy or sell any position in the shares.
Are trading halts common?
It is not common for individual stocks to be halted, and it is even less likely for the broader market to be suspended. In fact, the markets have only been halted twice. The first time was on October 27, 2008 during the global financial crisis. At that time the PSE index fell 10.33%. The other occurrence was on March 12, 2020 as a result of uncertainty at the onset of the Covid-19 pandemic.
Is trading halt a bad event?
A trading halt is not, by definition, good or bad. A better way to look at them is to say they are a necessary restriction in a regulated market. They occur due to a major news announcement (which can be good or bad), correcting an order imbalance (which could be bullish or bearish) or because of technical glitches or regulatory concerns. In many cases, a stock will go up after a trading halt.
The bottom line on trading halts
Trading halts are a minor piece of what otherwise are successfully regulated markets. However can trading halts consistent with a free market? The best answer, perhaps, is that they are a necessary restriction for an imperfectly free market.
As this article shows, a market without trading halts has the potential to quickly become a corrupted market. Without trading halts, insider trading would likely run rampant. This in turn would cause investors to lose more money than they otherwise would. And furthermore, it would eventually lead to a lack of confidence that would keep many investors out of the market.
With that said, trading halts promote investor confidence and protect investor wealth by helping to minimize preventable financial harm caused by lack of information.
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