SEC, exchanges move to bolster circuit breakers

By David Goldman, staff writer

NEW YORK ( -- Six major U.S. stock exchanges have agreed to new guidelines aimed at preventing last week's momentary stock market collapse from happening again.

The Securities and Exchange Commission met Monday in Washington, D.C., with the CEOs of the New York Stock Exchange and the Nasdaq. Top executives of electronic exchanges Direct Edge, the BATS Exchange, ISE and CBOE also attended.

The executives agreed on a "structural framework for strengthening circuit breakers and handling erroneous trades," said SEC chairman Mary Schapiro in a statement. Circuit breakers refer to trigger points that stocks need to hit before trading can be halted. The fact that exchanges have different rules when it comes to dealing with market fluctuations was also a topic of discussion.

The SEC and the exchanges met with Treasury Secretary Tim Geithner and the Financial Industry Regulatory Authority Monday afternoon to review the framework with the Obama administration.

An NYSE spokesman declined to comment, while the SEC and the other exchanges weren't immediately available.

Senate Banking Committee Chairman Chris Dodd, D-Conn., said Monday that he hopes his panel will get an informal briefing from the exchanges early next week. Dodd said the regulatory framework will not prevent future crises from happening but he hopes it'll help the system recover more quickly.

"We do live in a highly computerized world, where literally in microseconds buyers and sellers are matched up," said Dodd.

In an attempt to gain more information about the event, a House Financial Services subcommittee will hold a hearing Tuesday. SEC Chairwoman Mary Schapiro, CFTC Chairman Gary Gensler, NYSE Euronext Chief Operating Officer Lawrence Leibowitz and Nasdaq Executive Vice President Eric Noll will all testify.

It has been four days since the so-called "flash crash," and market regulators are still searching for answers.

At around 2:45 p.m. ET on Thursday, trades of a number of stocks listed on the New York Stock Exchange were slowed for about a minute due to that exchange's rules regulating excessive volatility. But during that short time, those stocks were still trading uninhibited on electronic markets.

That's when the Dow Jones industrial average plummeted 1,000 points in a short period, only to recover about 650 points of that loss nearly as quickly as it fell.

Since then, the SEC and the Commodity Futures Trading Commission have been analyzing millions of Thursday's trades to pinpoint the cause of the stock market's bungee jump.

What we do know

Though the root cause isn't known, some details have already become clearer: It appears that the meltdown was not caused by a computer glitch or a fat-fingered trader who entered an erroneous trade, as some were led to believe Thursday. Instead, the culprit was likely a glitch in the way the stock market operates during a time of crisis.

Trading accelerated at around 2:30 p.m. on Thursday, as traders grew increasingly nervous about Greece's debt issues. The Dow, which was already down about 200 points at the time, quickly dropped about another 200 points in the 15 minutes between 2:30 p.m. and 2:45 p.m.

That sell-off led the New York Stock Exchange to initiate a "slowdown" on several stocks that had fallen steeply - 10% in many cases - at around 2:45 p.m. Those stocks stopped trading on the NYSE for a little over a minute in an effort to cool traders' heads and find some buyers. In fact, the opposite happened.

Trading of those stocks continued on a number of competitors' electronic exchanges. Since the NYSE's slowdown took a large chunk of traders out of the market at a time when everyone wanted to sell, the off-exchange, high-speed trading computers found no bids, or offers to buy.

Those computers, which were looking for the best bid, were tripped up to believe the best bid was $0 for many of those stocks. The high-speed trading computers are designed to add a penny to each trade to make a commission on every deal, so the computers placed bids at a penny higher, or 1 cent.

Some stocks' prices didn't fall quite as low, or as far, but still entered a sudden tailspin that dragged the market down with it. For instance, Procter & Gamble (PG, Fortune 500) momentarily fell 37% and 3M (MMM, Fortune 500) dropped 22%. Both are Dow components, and their combined drop in price at around 2:45 p.m. contributed a loss of 315 points to the Dow index.

Seeing stocks at such a low level triggered a momentary panic.

Better coordination needed

Some experts have long cautioned that the disparity between the stock exchanges' trading rules, combined with the lack of regulation over high-speed trading computers, was like a ticking time bomb.

"Computerized markets are dangerously unprotected form this kind of glitch," said James Angel, a professor of finance at Georgetown University, who has testified about this issue numerous times before Congress. "But the exchanges can fix this easily by calling a trading halt."

Angel said regulators need to coordinate a system-wide trading halt when one exchange slows down or halts its market.

Lawmakers began to weigh in with similar suggestions over the weekend and on Monday.

"Coordination and consistent safeguards between trading venues - and across markets - is essential," said Sen. Charles Schumer, D-N.Y., in a letter to the SEC and exchanges.

-- senior writer Jennifer Liberto contributed to this report To top of page

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