A pressure valve designed to control extreme price volatility in the derivatives market will roll out at Hong Kong Exchanges and Clearing (HKEX) on 14 November, the organisation has announced.
After extensive consultation with stakeholders, HKEX officials decided upon a “simple and light-touch” Volatility Control Mechanism (VCM) that will protect investors, while keeping trading interruptions to a minimum.
The VCM’s core stipulation is that any attempt to trade a contract it covers at a sum more than 5% away from the reference price – ie, the price of the most recent trade, five minutes before – will trigger an automatic, five-minute ‘cooling-off’ period.
Trading of the contract can continue in that time, but only within a set band.
The reference price excludes prices of combo-versus-combo trades, tailor-made combination trades and block trades.
Other stipulations are:
Those time exemptions within the third and fourth points are designed to allow for free price discovery within the market.
HKEX head of markets Roger Lee explained that the cooling-off period “alerts the market, provides a short time window allowing participants to reassess their strategies and positions, and helps re-establish an orderly market at times when there is abrupt and drastic price movement for the contract concerned”.
Lee assured stakeholders that the VCM is not intended “to limit the ups and downs of prices in normal market conditions”.
He said: “Given that the VCM is designed to safeguard the market from extreme price volatility arising from major trading incidents, market participants should not expect it to take effect very often and should continue to exercise due care and remain cautious in their trading.”
HKEX materials outlining how the VCM works can be found here.