What are upper and lower circuits in the stock market?
If you are new to the world of investing in the stock market, you can sometimes feel overwhelmed by the various terminologies used to describe events in the market. In this article, we will try and cover a couple of such terms that sound confusing. By the end of this article, you should know precisely what circuit filters are, upper circuit meaning, lower circuit meaning, why they are used, who uses them, and what you should do to avoid falling into the circuit trap.
What are upper and lower circuits?
Do you know, what are upper and lower circuits in stock markets? The upper circuit is the level above which the price of a stock or the value of an index cannot rise in a single day. Stocks that many people want to buy but almost no one wants to sell could hit the upper circuit. The closing price from the day before is used to figure out the upper circuits.
Some stocks could have their upper circuits at a price that is 2% higher than where they closed the day before. Other stocks could have their upper circuits at 5%, 10%, or 20% higher than the price they ended trading the day before.
The price of a stock can't go above its upper range in a single trading session. But if some people start to sell, the prices might go down.
Do you know lower circuits’ meaning? The lower circuit is the lowest point where the price of a stock or the value of an index can go. Stocks that many people want to sell but only a few want to buy could hit the lower circuit.
Lower circuits are also based on the stock's closing price from the day before, which can differ for each stock.
For some companies, the lower circuit could be 2% lower than the previous trading day's closing price. The lower circuit might be 5%, 10%, 15%, or 20% lower than the last closing price for other stocks.
In a single trading session, a stock's price may not fall below its lower circuit, but if people start buying the stock, its price may go up.
What drives the upper/lower circuit?
Demand and supply are the most critical forces that lead a company to the point of upper/lower circuit. But these forces are also affected by several other things that can cause a stock or index to hit its highest or lowest prices. Among these things are:
Changes in the way the organization is put together, such as mergers and acquisitions
Political unrest, trade agreement changes
Interest rates like the repo rate
The reverse repo rates
A company's financial performance, expansions, bankruptcies, mergers
Market Circuit Breakers – Triggering Point and Halt Time
All the equity and derivative markets on the Indian stock market stop simultaneously when a stock hits the upper or lower circuit. This is done when the upper circuit and lower circuit of the market circuit breakers are set off. The circuit breaker stops the movement of the index in three stages for both the BSE and the NSE.
The BSE reopens the market after each halt session with a pre-opening session, while the NSE reopens the market with a pre-open call auction session.
Also, remember that the Securities Board Exchange of India decides how long this halt will last based on how much the prices have changed. For each stock, the circuit percentage is based on how the stock's price moved and what category it was in. The percentages for market-wide filters based on an index are 10%, 15%, and 20%.
• 10% fall or rise: Nothing significant happens if an index goes up or down by 10% after 2:30 pm. This could be because prices are more likely to change at the end of the trading day. If the price goes up or down by 10% between 1 pm and 2:30 pm, trading stops for 15 minutes. If the price goes up or down by 10% before 1 pm, trading stops for 45 minutes.
• 15% fall or rise: If the index goes down or up by 15% after 2:00 pm, trading is stopped for the rest of the trading day. If an index goes up or down by 15% between 1:00 and 2:00 pm, trading stops for 45 minutes. If it goes up or down by 15% before 1:00 pm, trading stops for an hour and 45 minutes.
• 20% fall or rise: When the price goes up or down by 20% at any time during the day, trading stops for the whole day. Circuit breakers are set up so that investors don't lose a lot of money in the event of sudden swings. So, when predicting how the price of a stock will move, investors need to think about the stock's circuits.
When a stock, say X Green, was marked at, say, Rs 1,000 on the Indian stock market at the end of the previous trading day. Now, on this trading day, this price has suddenly started to go through the roof because everyone wants to buy it. This means a 20% circuit filter needs to be used. In this case, if the price goes up to Rs 1,200 or down to Rs 800, the circuit breakers will be set off, and the stock will be put on hold for the amount of time shown in the time frame.
This was true for a single stock, but the way to look at the market index is a little bit different.
When it comes to indices like the BSE Sensex or the NIFTY 50 index, these circuit breakers are based on where the index was when trading ended the day before. For example, if the Sensex ended the previous trading day at 20,000 points, a drop to or beyond 16,000 points, 17,000 points, or 18,000 points, or a rise to or beyond 24,000 points, 23,000 points, or 22,000 points, would set off the circuit breaker. This will cause the entire market to stop trading at times listed.
How to use circuits or price bands on stocks to your advantage
An investor must realize the importance of these safeguards in preserving their capital.
The Securities Exchange Board of India (SEBI) has been working hard to protect investors from market manipulations. Using circuit breakers is one step toward scams like rigging prices and taking over the market. For real-time investors, it's best not to get caught up in the "herd mentality" when buying stocks. Instead, they should research by learning about the company's finances and how the Indian stock market works.
Now you know the difference between upper & lower circuits. The price of a stock should only hit the lower and upper circuits when there is a change in how much people want it. Setting limits on circuits is the SEBI’s way of protecting investors from too much speculation and volatility.
But in some cases, people who try to control the market may try to change how many people want to buy or sell a stock. Investors shouldn't make trades just because stocks or indices reach their upper or lower circuits.
Q. How are circuit filters chosen?
The Indian stock market is regulated by the Securities Exchange Board of India (SEBI), which also sets these circuit filters. The Board decides on and sometimes changes these circuit filters based on how volatile the market is, what strange things are happening, and how liquid the stocks and indices are.
Q. Can I sell a stock in the upper circuit?
When the price of a stock is at its high point, there are a lot of buyers but no sellers. There will be a lot of buyers at the upper circuit, so you can sell if you want to.
Q. Can we buy in the upper circuit?
When a stock's price hits the upper circuit, many people are not willing to sell it. This makes it hard to buy. People who want to buy stocks might have to wait until the price drops or try to buy at the upper circuit price.
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