My Doctoral dissertation is a compendium of essays pertaining to  an oft-implemented intervening instrument in financial market microstructure: circuit breakers. Inspired by electrical engineering use of a fuse to prevent damage to a circuit by current overflow, financial regulators and exchanges, since late 1980s, began employing mandated collars to prevent price fluctuation beyond a bracket deemed reasonable. This practice, though widespread in equity and futures markets, is controversial. Proponents claim it endows a propitious time-out when asset (or market) prices are stressed and persuades traders to make rational trading decisions. Opponents demur its potency, castigating it a barrier to laissez-faire price discovery process. Due to conflicting empirical evidences, difficulty in measuring counterfactuals, and a host of statistical methodological constraints, financial economists and industry experts are forked in their views regarding circuit breakers’ efficacy. Nonetheless, the practice is a clear favorite among exchanges and regulators, as substantiated by the staggering pace of adoption since the mid-1990s and nigh-zero evidence of an exchange abandoning it altogether. The last few remaining major bastions of anti-circuit breakers too have recently succumbed to the cry for greater regulation; case in point: Singapore Stock Exchange (SGX) and Australian Stock Exchange (ASX). In academia, meanwhile, the topic shows patterns of seasonality. Empirical works examining performances of regulatory rationales, such as deterring volatility, enhancing price discovery, interferences in trading, and a self-fulfilling gravitational pull (dubbed the magnet effect) seem to mushroom soon after headline-grabbing financial crises or flash crashes (as in May 2010 in the US). In fact, theoretical work in the field stagnated in the late 1990s, as empirical works to test them were difficult to undertake due to lack frameworks, acute paucity of data, and failure to address statistical constraints. The 2000s witnessed a slew of empirical works, mostly from the pacific basin markets, as time-series datasets became more accessible. Though Asian markets such as Korea, Taiwan, Tokyo, Shanghai, and Shenzen dominate the studies with mixed results, the only study undertaken in Malaysian market by Chan et al. (2005) found evidence of deterioration in market quality, using transaction data from 1995. Since then, KLSE has become BM, trading platforms and environments have grown sophisticated, and circuit breaker regime in the bourse has undergone multiple tweaks. Despite the changes, the limit of ±30% is intact since 1989, albeit with some qualifications. 

The Malaysian praxis is rather confounding for following reasons:

  • most exchanges prefer a very tight collar
  • many exchanges experiment with the limit in tranquil times, presumably in quest of an optimal collar
  • advanced exchanges commission studies corroborating the efficacy of the proposed regime and make the results known
  • most exchanges play with the circuit breaker around market crash periods to forestall the crash or reinforce traders’ confidence.

Somehow, Bursa Malaysia did none for nearly 3 decades, inviting us to question:

Does the price limit in Malaysia really work in achieving its professed objectives?

Is ±30% really the sweet spot? If so, why does everyone else prefer a tighter band?

My dissertation attempts to quench these queries. The corresponding pursuits-essaywise-are as follows:

In this essay, I delve into a synthesis of research, global and regional practices of circuit breakers and its many sub-variants, regulatory rationale, and methodological impediments to finding defensible answers to the regulatory incredulity of academic findings. 

In this essay, I use historical daily data from 1994 to test major hypotheses in the field: volatility spillover, trading interference, and price discovery. However, the approach isn’t the run-of-the-mill before-after event study. Instead, the whole sample period is bifurcated according to calm and crisis periods. After all, the purport of circuit breakers is to prevent crashes, and their efficacy is tested the most in turbulence. The results are mixed to varying degrees of statistical robustness with no clear indication of improvement in stopping volatility to spill over the subsequent trading days, delay in emergence of equilibrium price, or interference in trading. 

This essay utilizes proprietary high-frequency intraday data from January 2015 to August 2017 to examine existence of magnet effect and finds lack of evidence supporting the magnet effect hypothesis for majority of limit-triggered stocks. 

Lastly, the overall performance of different circuit breaker regimes in promoting efficient pricing via random walk is examined for affected stocks through a battery of parametric and nonparametric tests. The evidences favor the regulatory practice and indicate a liberal band corresponds with propensity for greater random walk. 

The results, overall, appear to vindicate Bursa Malaysia’s choice of circuit breaker and its nuanced praxis, contrary to earlier findings. The results are thus far preliminary and further tests are on-going to ensure rigor. A fair matrix of conslidated findings will be updated here once results are double-checked. Also, policy implications will be expounded upon both from local, ASEAN, and global perspectives.

Price Discovery

Essay 2
  • Upper limits: mostly no
  • Lower limits: mostly no

Trade Interference

Essay 2
  • Upper limit: mostly no
  • Lower limit: mostly no
  • Crisis-prone

Magnet Effect

Essay 3
  • Upper limit: moderate magnet effect
  • Lower limit: moderate to high magnet effect
  • Vortex zone: 7-10 ticks or 19-23% Δprice

Random Walk

Essay 4
  • Upper limit: mostly no
  • Lower limit: mostly no
  • Subpar performance in bearish markets
  • Limit-triggered stocks outperform the broad market in following a random path