In an attempt to obviate another mini-flash-crash scenario in the equities market and stock exchange traded funds, the U.S. Securities and Exchange Commission approved plans to allow the New York Stock Exchange to speed up and smooth out early morning trades during more volatile conditions.
The SEC said the NYSE could allow stocks to open for trading on particularly volatile days without the need of clear price disclosure that is normally required before trading opens, reports Chuck Mikolajczak for Reuters.
The NYSE asked for the new rules after the disorderly open on August 24, 2015, which caused a record intraday drop in the equities market and ETFs.
On August 24, 2015, some ETFs traded at steep discounts to their NAV. SEC economists have blamed the volatility on a perfect combination of heightened trading volume and a withdrawal of liquidity by market makers.
Authorized Participants or market makers create or redeem shares of ETFs to keep an ETF’s price in line with that of its underlying net asset value. The arbitrage process helps make sure investors do not buy or sell ETF shares at prices that deviate too far away from the fair value of the fund’s underlying assets.
Related: SEC Scrutinizes ETF Industry, Mulls New Rules
Market observers blamed the disconnect between ETFs and their NAV to Rule 48 on the New York Stock Exchange. The NYSE invoked Rule 48 multiple times to prevent panic trading during market open in August 2015. The relatively new rule allows stocks to open without price quotes ahead of time to allow a more orderly stock market open when there is expected to be large price gaps. However, since it required human judgement on the prices of individual stocks, many securities were stuck in a holding pattern on August 24, which the diminished transparency into pricing and affected market makers’ ability to calculate at what price to step in. Consequently, ETF prices plunged lower as orders failed to get filled.
[related_stories]The newly approved procedures would remove Rule 48 and set up specific guidelines for when shares could open or be reopened after a trading halt, which in theory would allow for more immediate trading. Stocks will be able to be opened without pre-market indicators if they were set to trade within 5% of previous day’s close. On volatile days, shares could open as long as prices were within 10% of previous close.
“This is really a consolidation to make it a bit more deterministic, orderly and more rules-based, so it is a very good thing, smart move by the exchange,” Jamie Selway, a market structure analyst at ITG, told Reuters.
While the SEC has given the NYSE the go ahead on the new rules, the exchange still needs to make technological changes before the rules go into effect, and the NYSE has not given any details on the timetable for the changes.
Related: ETF Trading to Benefit from NYSE Proposed Rule Change
However, Ken Polcari, director of the NYSE floor division at O’Neil Securities, warned that the changes could cause the markets to continue spiraling out of control in a severe sell-off.
Market participants will “really realize that it’s a mistake when one day the markets are really under stress and stocks just open like that and there is no opportunity to slow it down,” Polcari told Reuters.