- U.S. market would stop if significant number of shares halted
- Biggest asset manager seeks to soothe nerves frayed by Aug. 24
BlackRock Inc., the world’s biggest asset manager, has its own remedy for days of extraordinary volatility in the U.S. equity market: Shut it down.
Among the fund company’s suggestions: The entire $23 trillion market should automatically come to a halt if a certain number of shares stop trading, giving traders time to regroup on a wild day, according to BlackRock. Tweaking the rules on halts and making all stock openings electronic are among other ideas in a paper published Wednesday by the firm.
BlackRock’s proposals come as money managers talk with market-makers and stock exchanges to identify what happened amid the market turmoil on Aug. 24 and how to prevent a repeat. Trading that day was disrupted by delayed openings, more than 1,000 halts, and wild price swings. The fund company believes that many of its recommendations can be adopted with a minimum of fuss.
"They’re all very doable changes without a whole lot of magic," Barbara Novick, co-vice chairman of BlackRock, said in an interview. "I don’t think they’re going to be contentious. I don’t think they’re going to be difficult."
BlackRock is among several asset managers, including Vanguard Group Inc. and State Street Corp., that in recent weeks held discussions with market participants about the events of Aug. 24, people with direct knowledge of the matter told Bloomberg News. The talks highlighted factors including the use of so-called stop orders by investors, the role of market makers in pricing ETF shares, and narrow price bands used by the NYSE Arca exchange for opening securities, said the people. The issues were so widespread that about one in five exchange-traded products were halted during that day, according to BlackRock.
The talks between ETF issuers and traders and exchanges looked at the role of market makers in pricing ETF shares when some underlying stocks weren’t open or were seeing extreme price moves. Ways to better calculate an ETF’s share price amid turmoil have been discussed.
The BlackRock paper said that a quarter of the stocks in the Standard & Poor’s 500 Index hadn’t opened by 9:40 a.m. on Aug. 24, 10 minutes after the start of trading. BlackRock’s Novick suggested that in situations where a chunk of the stocks that make up the main index are closed, halting the entire market might be a good idea. The wildest fluctuations on a bad day could be limited if a circuit breaker stopped all trading, she said.
“In that scenario, you’d rather have had a market-wide halt to get everything back together than not have one,” said Novick.
Wednesday’s paper says that further work is needed to determine the number of individual stock halts that would automatically trigger such a pause.
BlackRock’s prescription conflicts with anything offered so far by regulators. Speaking last week at an industry conference in Washington, Stephen Luparello of the U.S. Securities and Exchange Commission said the conditions on Aug. 24 didn’t justify a market-wide halt.
“People were not pulling out of the market because they were uncertain they were getting real-time information,” Luparello, the SEC’s director of trading and markets, told the Security Traders Association event. “The extent to which a pause to allow people to get a greater level of certainty around data -- that need was, I don’t think, there. So in that sense it was good we averted having a market-wide halt.”
The effort to publicly address some of the issues that plagued the market has been welcomed by market participants.
“Blackrock’s leadership in helping avoid that kind of exchange-traded products volatility, especially around liquidity provision, is critical,” said Bill Harts, chief executive officer of Modern Markets Initiative, an industry group for high-speed traders. “The paper imparts a solid understanding of market structure and the role of principal trading firms in ETP markets.”
The report suggests tweaking the system underlying trading halts, called limit-up/limit-down. Exchanges typically allow securities to rise or fall by a set percentage but if the stock moves as much as the threshold, trading is suspended to prevent an avalanche of buy or sell orders from creating more extreme price moves. At the moment, the limit-up/limit-down price bands double in the first 15 minutes and the last 25 minutes of the trading day, but BlackRock is calling for uniform thresholds throughout the day.
“We believe that this doubling is inconsistent with the objective to address severe price volatility, as the open is precisely the time of day when volatility is greatest and firmer controls are needed,” said the paper.
BlackRock also urged regulators to consider making market opening procedures fully electronic. While the New York Stock Exchange’s hybrid model, in which human traders on the floor play a role, works in normal circumstances, BlackRock said, "it may have inadvertently contributed to delayed opens and heightened market uncertainty" on Aug. 24.
Among other concerns are the widespread use of stop orders by retail investors, which many on Wall Street believe contributed to the volatility. Two people familiar with the matter said there have been discussions with brokers that offer stop orders about educating their clients on how to use them.
While stop orders sound like they can protect an investor, they actually send an instruction to an exchange to execute a trade immediately at any price, commonly known as a market order. In volatile markets, that can mean orders to sell securities as prices are plunging. Data from NYSE show that it had nine times the number of market orders on Aug. 24 compared with an average day. Market orders as a percent of executed volume were four times higher than usual.
“Excessive use of market and stop-loss orders that seek ‘liquidity at any price’ inflamed the situation,” said the BlackRock paper, which recommended investors use limit orders instead.
Exchanges are likely to be receptive to today’s proposals given BlackRock’s position as an asset manager, said Rich Repetto, an analyst at Sandler O’Neill & Partners LP.
“Normally the exchanges listen very much to what the buy side has to say,” he said in a phone interview. “Generally they’re not viewed as competitors so they’re open to working together to come up with the best solutions.”
Some have already been taking steps. Stacey Cunningham, chief operating officer at NYSE Group Inc., a unit of Intercontinental Exchange Inc., said last month that it has hired a consultant to review how ETFs trade on the company’s markets, including looking at trading halts. The effort will also try to assess whether brokers need better incentives to keep trading when markets turn choppy, she said. NYSE Arca on Sept. 4 filed with its regulator to widen the price bands it uses at the market open.
Nasdaq Inc. declared its backing for BlackRock’s effort after the paper’s publication.
“We are supportive of many of the recommendations made in the report,” Joseph Christinat, a spokesman, said by phone. “Nasdaq opens every security, every day at 9:30am New York time, so we are also absolutely steadfast about ensuring the timeliness and transparency of the U.S. equity markets, for the benefit of all investors.”
Randy Williams, a spokesman at Bats Global Markets Inc., declined to comment on the BlackRock proposals. Sara Rich of NYSE Group Inc. didn’t respond to requests for comment.
“This really is a market structure issue for ETPs,” said James Angel, associate professor of finance at Georgetown University, in a phone interview. “Unless the industry fixes these things quickly, it will happen again.”