Completing the Circuit: Canadian Regulation

Wendy Rudd of the Investment Industry Regulatory Organization of Canada (IIROC) describes the Canadian approach to circuit breakers, minimum size and increment requirements and the role of dark liquidity.

What is currently driving the regulatory policy agenda with regard to circuit breakers?
Globally, and Canada is no exception, we have seen the introduction of new rules in several areas related to the mitigation of volatility. Circuit breakers are just one of those areas. While some reforms may have been in the works already, the Flash Crash of May 2010 certainly served as a catalyst for a broader debate about market structure, trading activity and the reliability and stability of our equity trading venues.

Volatility is inevitable, so when does it become a regulatory concern?
From our perspective – and we regulate all trading activity on Canada’s three equity exchanges and eight alternative trading systems – we see it as a priority to mitigate the kind of shortterm volatility that interrupts a fair and orderly market. We do not expect to handle this role alone; it is a shared responsibility that includes appropriate order handling by industry participants and consistent volatility controls at the exchange/ATS level.

What are the benefits of harmonizing circuit breaker rules with US markets?
One main advantage to a shared or complementary approach is that it limits the potential for certain kinds of regulatory arbitrage in markets that operate in the same time zone. Many Canadian-listed stocks also trade in the US, and roughly half of the dollar value traded in those shares takes place on US markets each day.

Which approaches are you considering taking for market-wide circuit breakers?
We are monitoring developments in the US, where regulators have proposed changes which include lower trigger thresholds calculated daily, using the S&P 500 (instead of the Dow Jones Industrial Average) and shorter pauses when those thresholds are triggered. We are currently exploring options for marketwide circuit breakers which include continuing our existing policy of harmonizing with the US, pursuing a ‘made-in-Canada’ alternative or identifying a hybrid approach that does a little bit of both. At this stage, we are soliciting industry feedback on the merits of these three approaches. With the help of that feedback, we expect to be able to choose the appropriate path soon. It is important to note that these kinds of circuit breakers are an important control but have traditionally acted more as insurance – they have only been tripped once in the US and Canada since being introduced in 1988.

How similar is IIROC’s new Single-Stock Circuit Breaker (SSCB) rule to the US rules?
Single-stock circuit breakers are relatively new for both jurisdictions. The US and Canada have implemented SSCBs which are similar in that a five-minute halt is triggered when a stock swings 10% within a five-minute period. Otherwise, the Canadian approach differs in several ways. For example, our SSCB does not trigger on a large swing in price if a stock were trading on widely disseminated news after a formal regulatory halt.

Do you believe circuit breakers, market-wide or single-stock, have a deterrent effect on momentum trading?
We did not set out with a prescriptive approach to influence or change trading behaviour or strategy. IIROC’s circuit breaker policies were developed to provide added insurance against extraordinary short-term volatility. We intend to study the impact of any changes and we may be able to learn more about the impact of policy changes on trading behaviour.