From Black Monday to the 2020 Storm: The Market Truth Behind the US Stock Market Circuit Breaker Mechanism

When the stock market experiences extreme volatility, exchanges will suddenly hit the pause button. This mysterious market safeguard is called the US Stock Circuit Breaker mechanism, and its emergence has changed the way modern financial markets manage risk. To understand how this mechanism works, let’s start with the most disastrous day in history.

Black Monday: The Birth of the Circuit Breaker Mechanism

On October 19, 1987, Wall Street faced a catastrophe. The Dow Jones Industrial Average plummeted by 508.32 points in a single day, a decline of 22.61%. This day is known as “Black Monday,” and global stock markets fell in unison within hours, leading to a total market crash.

What caused this storm? Looking back to the beginning of the year, the NASDAQ index soared from 348 points to 430 points, a 23.6% increase in just three months. Then came dividend distributions, index corrections, and increased selling volume, signaling a market top. By September and October, with more dividend payout days and spreading investor panic, the Dow and NASDAQ indices experienced sharp declines. It was this market disaster that made regulators realize the need for a mechanism to prevent market out-of-control situations.

US Stock Circuit Breaker: The Market’s “Emergency Brake”

The English term for the US stock circuit breaker mechanism is “Circuit Breaker,” literally “break circuit.” The name is quite vivid—just like a circuit breaker in your home that trips automatically when there’s a fault, cutting off power to ensure safety; in the stock market, the circuit breaker is triggered automatically during severe fluctuations, pausing trading to allow investors to think calmly.

Imagine watching a particularly intense horror movie, your heart racing uncontrollably, and someone presses the pause button for you, giving you 15 minutes to relax and regain composure—that’s the role of the circuit breaker mechanism. When investor sentiment overreacts or the market experiences uncontrollable volatility, a trading halt provides everyone time to absorb new information and reassess the situation.

Three Levels of Defense: The S&P 500 Trigger Points

During regular trading hours from 9:30 to 16:00 Eastern Time, the US stock circuit breaker mechanism sets three trigger levels based on the decline of the S&P 500 index relative to the previous trading day’s closing price:

Level 1 Circuit Breaker: Down 7%

• Trigger condition: S&P 500 drops 7% from the previous day
• Impact: All stocks halt trading for 15 minutes
• Special case: If triggered between 15:25 and 16:00, trading continues

Level 2 Circuit Breaker: Down 13%

• Trigger condition: Further decline to 13% within the same trading day
• Impact: All stocks halt trading again for 15 minutes
• Special case: If triggered between 15:25 and 16:00, trading continues

Level 3 Circuit Breaker: Down 20%

• Trigger condition: Index falls 20%
• Impact: All trading stops immediately for the rest of the day
• No exceptions: The market closes directly upon trigger

It’s important to note that Level 1 and Level 2 circuit breakers can only be triggered once per trading day. For example, if the S&P 500 drops 7% and triggers Level 1, and then drops another 7% after trading resumes, it will not trigger Level 1 again unless the decline reaches 13%, which would trigger Level 2.

Why Set Up the Circuit Breaker? The Psychology Behind It

The core purpose of the circuit breaker is to prevent irrational investor emotions from triggering a chain reaction of market crashes. When the stock market drops sharply, panic spreads like a plague—one investor sees prices falling and starts selling, more follow suit, creating a vicious cycle. Pausing trading gives the market a “cooling-off” period.

More importantly, the circuit breaker can prevent “flash crashes.” On May 6, 2010, a UK trader used high-frequency trading to create a massive number of short positions in a short period, causing the Dow Jones Industrial Average to plunge by 1,000 points in just five minutes. In such extreme cases, the circuit breaker can halt trading, allowing the market to regain rationality and prevent prices from becoming completely distorted.

Reality Check: The Four Circuit Breaker Storms of 2020

Since its establishment, the US stock circuit breaker has been triggered five times, four of which occurred in March 2020. These are unprecedented dense circuit breaker events in history.

2020 Circuit Breaker Timeline

Warren Buffett once said he had only witnessed five US stock circuit breakers in his lifetime, yet within just one month, we experienced four.

Background: The COVID-19 pandemic erupted globally, with daily infection numbers breaking records. Facing this unprecedented “black swan” event, people fell into deep anxiety. Countries implemented social distancing and bans on gatherings, causing economic activity to halt instantly, disrupting global supply chains.

Trigger Factors Analysis: In early March, the breakdown of oil negotiations between Saudi Arabia and Russia led Saudi Arabia to increase oil production, causing international oil prices to crash, igniting the stock market fire. Coupled with the pandemic, travel restrictions, slowed production, declining corporate revenues, and soaring unemployment created a complete collapse of investor confidence. Fears of an impending recession led to a rush to safe assets, triggering chain reactions of stock sell-offs and short-selling.

By March 18, the Nasdaq had fallen 26% from its February high, the S&P 500 dropped 30%, and the Dow Jones Industrial Average declined 31%. Even with the US government announcing hundreds of billions of dollars in aid and corporate financing support, market panic only eased temporarily.

The Double-Edged Sword of the Circuit Breaker: Protection and Backfire

As a market safeguard, the circuit breaker can alleviate market sentiment, prevent further out-of-control declines, and protect investors. When investors see the pause button triggered, panic tends to subside gradually, providing a chance to reassess.

However, from another perspective, the circuit breaker can also have adverse effects. When trading approaches the trigger point, some investors may rush to sell prematurely out of fear of being unable to sell quickly after the circuit breaker is triggered, further increasing market volatility. This “panic selling before the halt” can intensify rather than ease market anxiety. This is why sometimes the circuit breaker seems to be pushing the market downward.

Stock-Specific Circuit Breakers vs. Market-Wide Circuit Breakers

Besides the market-wide circuit breaker for the S&P 500, the US stock market also has individual stock circuit breakers (LULD - Limit Up-Limit Down), mainly to prevent extreme price swings in single stocks. Exchanges set price limit ranges for individual stocks; if a stock’s price exceeds these limits, the system enters a 15-second trading restriction. If not restored within 15 seconds, trading for that stock is halted for 5 minutes.

The market-wide circuit breaker protects the overall market, while individual stock circuit breakers safeguard the trading order of specific companies.

Will the Circuit Breaker Trigger Again?

Typically, the US stock circuit breaker is triggered in two scenarios: one is unexpected major sudden events (such as pandemics, earthquakes, terrorist attacks), and the other is external shocks that defy market expectations after reaching a high point (such as unexpected rate hikes or corporate earnings far below expectations).

Given the current macroeconomic situation, concerns about recession still persist. While we cannot predict major sudden events, it is certain that as long as financial markets exist, extreme volatility may recur.

How Investors Should Respond

If the market crashes again due to the circuit breaker being triggered, investors should stay calm and avoid being driven by short-term panic. The best strategies are:

Adhere to the principle of holding cash as king. In markets with extreme volatility, new investment opportunities tend to decrease because high uncertainty accompanies quality assets. Ensuring principal safety and liquidity should come first.

Increase income and reduce expenses, preparing for long-term investment. The circuit breaker essentially reminds market participants to think calmly. Use this “pause” to review your investment strategy, ensuring you have the capacity for continuous investing rather than being completely knocked out by a single plunge.

Summary

The US stock circuit breaker is an important innovation in modern financial markets. Born from the painful lessons of Black Monday in 1987, it provides risk protection through three trigger levels (7%, 13%, 20% declines). The fluctuation of the S&P 500 serves as a trigger signal, and the pause in trading is designed to give investors time to absorb information and make calm decisions. Although the circuit breaker is not a perfect solution and can sometimes even exacerbate panic, its existence has indeed improved market stability.

Most importantly, investors should understand the logic behind the circuit breaker—it’s an emergency brake when market emotions overheat, not a signal of doomsday. When facing the next potential circuit breaker, maintaining rationality, safeguarding principal, and preparing for the long term are the right attitudes.