Triggered by COVID-19 (Coronavirus), we have seen increased fluctuations on the global stock markets since mid-February. The stock exchange infrastructure is currently being used as intensively as it was recently during the BREXIT decision and the financial crisis in 2008. As a reliable infrastructure provider, it is the task of the stock exchange, especially in turbulent times, to ensure transparent trading and to enable investors to sell or buy securities at any time. If a stock exchange closes, and this has been shown by the historical experience of 2008, this causes even greater panic among investors and irritation on the market.
On majority of exchanges in Europe and elsewhere, there are stability and protection mechanisms that have been tried and tested for decades. Technical and functional mechanisms ensure smooth exchange trading even in extreme market situations.
The volatility interruption is one of the most important protective mechanisms in the trading system. Also known as “circuit breaker”, it has been making a significant contribution to preventing abrupt, unintended price jumps for decades.
If the potentially next stock exchange price lies outside pre-defined limit corridors (based on a clear methodology publish by the Stock Exchange), the price is not formed immediately but a volatility interruption is initiated and trading is interrupted for few minutes. This has the advantage that orders are collected until the next price formation and liquidity is bundled. The short break gives market participants more time to analyze the situation. If necessary, changes can be made to the orders (e.g. in price or quantity). If trading continues, a price is created which is made up of several orders and which reflects the market opinion better than a single price fixing.
In the case of particularly large price jumps, trading can be interrupted for a longer period of time. Here too, continuous trading is automatically continued after the volatility interruption, unless the next potentially large price jump occurs, in which case trading is again interrupted (volatility interruption). Volatility interruptions can occur during continuous trading or also after the end of auctions (volatility interruption extends the auction).
From order entry to the Stock Exchange’s electronic trading system, to price formation on the stock exchange and also in post-trading – the capital market industry and stock exchanges have numerous protective measures in place. Pre-trade controls, such as validation of the maximum order volume, prevent orders with too large a volume from being entered in the order book. On the way to the stock exchange, technical throttling of the lines protects against overloading the trading system. The maximum number of orders per trading participant per second is limited. The volatility interruption prevents unwanted, rapid price jumps, as described above. The random end of auctions protects against market manipulation. The highest level of settlement security also exists in post-trading (also known as clearing-settlement process). In clearing, all participants deposit collateral to guarantee the execution of transactions. All these steps strengthen the confidence of trading participants in exchange prices.
Source: Taken with few changes from Vienna Stock Exchange