The market has triggered a 'circuit breaker' that keeps stocks from falling through the floor. Here's how that works - CNBC

Traders work the floor of the New York Stock Exchange (NYSE) on March 5, 2020 in New York City. Coronavirus fears have whipsawed markets recently, with the Dow Jones Industrial Average ending today down more than 950 points, or nearly 3.6 percent. (Photo by David Dee Delgado/Getty Images)

David Dee Delgado | Getty Images

With U.S. stock futures set to plunge at the open, investors will be watching for key market circuit breakers to kick and limit or halt the market altogether.

Futures hit "limit down" on Sunday evening after CME-traded contracts sank 5%, halting trading below that level and preventing futures from falling any further. 

What is 'limit down'?

According to the New York Stock Exchange, a market trading halt may occur at "three circuit breaker thresholds" on the S&P 500 due to large declines and volatility. The exchange classifies this at three levels based on the preceding session's close in the S&P 500.

The rules, which apply to regular trading hours only, are as follows:

• Level 1: If the S&P 500 drops 7%, trading will pause for 15 minutes. (This would occur today if the S&P falls 208 points).
• Level 2: If the S&P 500 declines 13%, trading will again pause for 15 minutes if the drop occurs on or before 3:25 p.m. ET. There will be no halt if the drop happens after that. (This would occur today if the S&P falls 386 points).
• Level 3: If the S&P 500 falls 20%, trading would halt for the remainder of the day. (This would occur if the S&P falls 594 points).

These circuit breakers have never been triggered in their current form during regular trading hours. The prior circuit breaker system was revamped after it failed to prevent the May 2010 flash crash.  This current set of breakers were put into effect in February 2013.

ETFs tell the tale

Since U.S. futures are pinned at limit down, they don't tell us all we need to know about how the open might go. Exchange-traded funds based on the indexes, however, continue to trade in the premarket. The SPDR S&P 500 ETF around 7 a.m. ET indicates a 5.9% drop in the S&P 500 once trading resumes. Both the SPDR Dow ETF and the SPDR Nasdaq ETF suggest declines of more than 5.5% at the open. The implied Dow open based on the ETF trade would be a drop of more than 1,500 points after opening limit down.

These ETFs are very accurate In reflecting market trends even when the underlying stocks are not open. The broadest China ETF, the iShares CHI, very accurately reflected the drop in Chinese shares in late January and early February even when the China market was closed for more than a week.

—CNBC's Peter Schacknow and Bob Pisani contributed to this report.

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The market has triggered a 'circuit breaker' that keeps stocks from falling through the floor. Here's how that works - CNBC
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