- BlackRock says retail traders don't understand how they work
- Investors mistakenly think they limit losses, NYSE says
The New York Stock Exchange is eliminating an order type that investors including BlackRock Inc. blame for exacerbating extreme share-price swings on Aug. 24.
Stop orders -- or instructions to immediately trade once a stock hits a certain price, even if the price is far worse than the one on the order -- will no longer be available starting on Feb. 26, NYSE said this week.
Hundreds of securities posted unusual moves on Aug. 24, including bellwethers like General Electric Co. and JPMorgan Chase & Co. that plunged as much as 21 percent only to quickly recover. BlackRock, the world’s biggest asset manager, analyzed the events of that day and concluded that stop orders -- among other factors -- contributed to losses.
"Stop orders are like land mines," said James Angel, a financial markets professor at Georgetown University. "They blow up in ways that are unanticipated by the people who plant them."
Stop orders work like this: A customer requests that 1,000 shares of Company X get sold once the price falls to $20. But $20 isn’t guaranteed. If the stock plunges from $30 to $10, without hitting any intermediate prices first, the stop order might get executed at $10. According to BlackRock, that’s a surprise to some small investors.
On Aug. 24, “retail investors who had standing stop-loss orders were especially impacted -- once the stop price was reached, the orders were converted into market orders, which were often executed at prices that were markedly lower than the stop price,” according to BlackRock’s report. “As stop-loss orders are typically intended to be used to mitigate losses, investor education about the risks of stop-loss orders should be significantly increased.”
In the past six months, fewer than 0.3 percent of orders on NYSE were stop orders. NYSE is also discontinuing a type of order called "good-till-canceled" that remain active until an investor decides to cancel it or the trade has been executed, the exchange said in its notification this week.
Stacey Cunningham, NYSE’s chief operating officer, said that in conversations following Aug. 24, retail investing firms frequently raised questions about stop orders to the exchange.
"The circumstances around stop orders have changed," she said. "A lot of investors use stop orders thinking it’s an insurance policy. The perception is they limit losses, and that’s just not the case."
Brokerage firms can still program their systems to carry out orders that achieve the same results as a stop order for their clients, by entering a market order on the client’s behalf after a stock price reaches a specified threshold.
Nonetheless, Cunningham said, the exchange wants "to raise the profile of the risks associated with this order type."