In the event of severe market volatility regulated central exchanges such as the CME may sometimes suspend trading on one side of the underlying market. These suspensions are called ‘limit up’ or ‘limit down’, depending on the direction that the market has moved. These limits can also be referred to as ‘circuit breakers’.
Both limit ups and limit downs are used to prevent certain assets reaching excessively high volatility levels.
As trading is suspended in the underlying market, it will impact how you trade with us.
What is a limit up?
A limit up is the maximum amount that the price of a stock, commodity or index futures contract will be allowed to increase in a single trading session.
This means that buying the underlying market is suspended by the exchange.
You’ll therefore only be able to sell – whether to open or close positions– when a limit up is in place. To sell with IG Bank, you’ll have to phone us, but please be aware that prices may be significantly higher when the market re-opens.
What is a limit down?
A limit down is the opposite to a limit up. It sets the maximum amount that the price of a stock, commodity or index futures contract will be allowed to decrease in a single trading session.
Limit downs seek to prevent panic selling and market crashes. This is because if more and more traders begin to sell in a panic, the price of the underlying commodity will decrease in line with increased supply and lower demand in the market.
This means that selling the underlying market is suspended by the exchange.
You’ll therefore only be able to buy – whether to open or close positions – when a limit down is in place. To buy with IG Bank, you’ll have to phone us, but please be aware that prices may be significantly lower when the market re-opens.
Current limit up/limit down bands
The limit up and limit down thresholds are fixed by the exchange on which the assets trade, and are set for each asset. As such they are subject to change.
For more information on a particular exchange’s thresholds and the latest threshold prices, you can look directly on the exchange’s website.
Limit up example
For an example of a limit up, we’ll look at commodity futures contracts.
For corn futures, the limit up is a $0.40 price movement from the previous close. If the price of corn increases beyond this limit, then trading in corn futures is halted for the rest of the trading day.
This is to stop the price of corn futures, and other commodity futures contracts, from increasing dramatically compared to the price of the underlying asset, which the futures contract represents.
Limit down example
For an example of a limit down, we’ll look at an index.
There are a series of specific bands in which an index’s price can move – taken from a reference price of the index. These bands are different depending on the index and the time of day.
For the S&P 500, the limit down is set at -5% outside of market hours (from 11pm to 2.30pm Swiss time) and if the price exceeds that band then trading is suspended for a period, usually 15 minutes..
Why was limit up/limit down introduced?
Limit up/limit down was proposed in response to the market volatility experienced on 6 May 2010. This was particularly severe in American markets, with the Dow Jones Industrial Average (DJIA) losing around 1000 points in less than ten minutes. The reason for the drop was uncertain at first, but it was later discovered that it was caused by a $4.1 billion sell order by an American mutual fund.
Investors’ nerves were already jittery on the back of riots in Greece, European countries requesting loans and bailouts, the wider European debt crisis, a general election being held in Britain and the Deepwater Horizon oil spill, which affected the oil futures market. The large sell order was the final straw that triggered a mass sell-off.
It’s estimated that over 16 billion futures contracts were sold in a two-minute window, and many stocks experienced heavy declines in their prices. As a result of the crash, the limit up/ limit down boundaries were implemented to prevent similar sell-offs happening in the future.
They were first proposed by a number of national American exchanges and the Financial Industry Regulatory Authority (FINRA) in April 2011. The limits were eventually approved and introduced (at first on a pilot basis) by the Securities and Exchanges Commission (SEC) on 31 May 2012.