CARF’s latest White Paper, “A New Design for Circuit Breakers” proposes a new approach to circuit-breaker design based on real-time information asymmetry at the Exchanges, replacing traditional ex-ante, fixed-percentage thresholds with an endogenous trigger.
The paper highlights four key policy applications:
- Trading halts could be triggered when information asymmetry reaches a critical level, allowing circuit breakers to respond to the toxicity of order flow, rather than simply the magnitude of price movements. This is believed to be a timely proposal, especially when the main volume-generating actors of stock markets and their trading characteristics are considered.
- To dissipate informational imbalances faster, halt durations could be revisited and shortened after a pilot program with longer waiting periods for smaller stocks where information asymmetry tends to be higher.
- Exchanges could incorporate an information-asymmetry-based criterion alongside existing market-capitalization, free-float, and volume requirements when determining the inclusion of securities in headline indices.
- The information-asymmetry metric could provide an additional, continuously available surveillance signal, helping exchanges monitor stocks closely even when no circuit breaker is triggered.
Overall, the framework aims to shift the role of circuit breakers from calming markets after sharp price movements to warning markets when underlying conditions become vulnerable to liquidity deterioration.
