Claudia E. Moise and Paca Flaherty

Abstract:

This paper assesses the frequency of certain events, including Limit States, Straddle States, Trading Pauses and clearly erroneous trades, that occurred before and after the implementation of the Limit Up-Limit Down (“LULD”) National Market System (“NMS”) Plan (the “LULD Plan” or “Plan”).

The Plan was filed to create a market-wide limit up-limit down mechanism to address extraordinary volatility in individual NMS securities, which can undermine the integrity of the securities market. The Plan was intended as a replacement for the single-stock circuit breaker (“SSCB”) pilot program, which was an earlier attempt to address extraordinary volatility and was implemented through a series of rule filings by the exchanges and the Financial Industry Regulatory Authority, Inc. (“FINRA”). The LULD Plan provides for market-wide, single-stock price bands designed to prevent trades in individual NMS stocks from occurring outside of specified price bands while allowing trading to continue if a price move is only temporary. The LULD Plan was implemented in two phases. During the first phase, the Plan operated only in larger, more liquid securities (“Tier 1 securities”), except during short periods following the open and preceding the close. During the second phase, the Plan extended to all other NMS securities (“Tier 2 securities”) and operated throughout the trading day.

We document a large number of Limit States, Straddle States, and Trading Pauses in Tier 2 securities, though both tiers experience a large percentage of these events at the beginning of the trading day. Further, the data suggest that there was no reduction in clearly erroneous trades (as captured by canceled trades) during the LULD period compared to the SSCB period. Also compared to the SSCB period, we find an increase in the frequency of Trading Pauses for Tier 2 securities, but a reduction in the frequency of Trading Pauses in Tier 1 securities.