Academic journal article Journal of Financial Management & Analysis

Financial Management Focus on Price Volatility and 'Circuit Breakers' in the Nigerian Equity Market Implications for Monetary Policy *

Academic journal article Journal of Financial Management & Analysis

Financial Management Focus on Price Volatility and 'Circuit Breakers' in the Nigerian Equity Market Implications for Monetary Policy *

Article excerpt


Price volatility in equity markets which could be a double edged sword, given its intractable nature is conceptualized as the variance and degree of price dispersion in stocks, bonds, futures or any other financial asset around unobserved fair price threshold (Bahadur)1. Apart from energizing the market at "normal" levels during downturns (Subrahmanyam2, Kim, et aP), it can also precipitate and perhaps protract financial crises at excessive levels, if it persists (Reider4). On the contrary, Fama5 argues that reducing volatility in the stock markets should not be pursued as a policy goal for two main reasons:

* One, rational pricing do not always imply lower volatility, and there are yet no empirical evidence to suggest that lower volatility is superior to higher one provided that both are driven by market information that reflect rational shifts in beliefs about fundamental values of stocks;

* Two, the difficulty in establishing when price volatility is considered 'excessive' makes outcomes of policy interventions to moderate them uncertain.


However, Drakes6 and Bahadur hold a contrary view on the role of price volatility in equity markets. They argue that extreme price volatility undermines investor confidence, attenuate market participation with obvious consequences for market liquidity which can results in scarcity and high cost of capital, with a negative impact on real economic activity. Hassan7 further notes that wide fluctuations in stock prices evokes uncertainty in investment decisions and impacts portfolio values in the context of time varying volatilities in the market.

The foregoing views found expression in observation that extreme price fluctuations preceued and subsequently protracted major financial market crashes such as the 1987 NYSE crash (Black Monday), the Asian financial market crises of 1989 andthe crashes of many bourses across the globe in the wake of the global financial and economic crises of 2007-2010. In the context of the foregoing, managing equity price volatility presents enormous challenges to market regulators as well as policy makers, especially in the context of hedging against possible financial market crashes with roots in asset price bubbles.

Price limits and trading halts (circuit breakers) have been deployed by regulatory authorities as policy responses to extreme price volatility ostensibly to stabilize equity price fluctuations, especially during financial market crises (Chang and Hsieh8). Notwithstanding its advertised benefits, however, Harris9 notes that the debate about its efficacy in mitigating financial market meltdown remains largely unresolved, theoretically and empirically. For instance, while proponents of price limits argue passionately about its ability to ensure market liquidity; mitigate panic buying; moderate price volatility during financial crises and effectively cap the size of profit and loss levels in a single trading day (Cox10, Ma, Rao and Sears", Kodres12 and Abiodun). Opponents, are quick to point out that it may induce delays in trading activities, undermine market efficiency and compromise price discoverydue totrading delays. Such delays occur andaré sustained when trading is delayed in anticipation of the full manifestation of price movements in the context of price limits andtheir risk-return calculations (Phylaktis, Kavussanos and Manalis", Hassan, et al., and Arnadi'4). Therefore, the hunch is that such pricing models in equity markets may have consequences for market efficiency and liquidity conditions as trading is now driven by exogenous regulatory factors other than information about market fundamentals. These postulations have been subjected to empirical tests across many countries without generic empirical conclusions about the real impact of price limits on stock market stability.

The Nigerian Stock Exchange (NSE) introduced daily stock price limits and trading halts as a way of stabilizing the stock market after it crashed following the global financial crisis in 2008. …

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