Most Mondays we all just want to ease into the week, uneventfully.
But on one particular Monday, a large overnight selloff in the Chinese equity market had many market observers anticipating a less than smooth start to Aug. 24, 2015. Shortly after the opening bell, the Dow Jones Industrial Average Index tumbled 6% and the S&P 500 Index fell 5%. Many stocks dropped more than 20%.
Shortly after, the Chicago Board Options Exchange Volatility Index or VIX spiked to an intraday high of 53 — its highest recorded level outside of the 2008-09 financial crisis, according to Bloomberg (Aug. 24, 2015). If it hadn’t already, the extraordinary nature of the situation hit home when the New York Stock Exchange invoked the rarely then used Rule 48.
Designating an extreme market volatility condition, Rule 48 suspended the requirement that stock prices be announced before trading commenced. The idea was to speed up the market’s open and mitigate some of the volatility.
But complicating matters, stock exchange volatility rules, created after the 2010 Flash Crash, went into effect as well. As a result, trading on about 100 stocks and 300 exchange-traded funds was temporarily halted, sometimes repeatedly.
Walking a Tightrope
Under normal market conditions Authorized Participants, typically large financial institutions, will act as arbitragers when an ETF’s price diverges from its net asset value.
However, on that day, APs largely were flying blind due to dozens of halted stocks and limited price information. Without accurate reads on the prices of the underlying basket of securities, many ETF market makers widened their spreads — the difference between their buying and selling price — or withdrew bids entirely.