A Complete Guide to US Stock Market Circuit Breakers: From Mechanism Principles to Investment Strategies

What is a circuit breaker? A thorough understanding with an analogy

When mentioning circuit breakers in the US stock market, many investors may feel unfamiliar. In fact, the concept is very intuitive—just like a home’s electrical circuit automatically trips when overloaded, the stock market has a similar “safety device.”

The English term is “Circuit breaker.” When the market experiences extreme volatility, exchanges will proactively pause trading to give all participants a chance to cool down. Imagine watching a tense horror movie, your heartbeat racing, and suddenly someone presses the pause button, allowing you to rest for 15 minutes before continuing. The logic of the US stock market circuit breaker is similar—forcing a halt during market frenzy to prevent rationality from completely collapsing.

How are circuit breakers triggered? Three levels escalate step by step

The US stock market’s circuit breaker mechanism is divided into three levels, each corresponding to different decline thresholds and measures.

Level 1 circuit breaker is triggered when the S&P 500 drops 7%. When this threshold is reached, trading is paused for 15 minutes across the entire market. However, there is a special rule: if the decline occurs after 3:25 PM, trading will not be paused. This arrangement is to reserve a final window for trading on that day.

Level 2 circuit breaker is triggered at a 13% decline. Similarly, trading is paused for 15 minutes, with the same rule—no pause if after 3:25 PM.

Level 3 circuit breaker is the most severe measure, triggered when the S&P 500 drops 20%. At this point, trading stops until the market closes. In other words, all remaining trading hours for that day are locked.

Interestingly, Level 1 and Level 2 circuit breakers can only be triggered once per trading day. For example, if the index drops 7% triggering Level 1, and later drops another 1%, Level 1 won’t trigger again unless the decline reaches 13%, which would then trigger Level 2. This “progressive” design prevents chaos caused by frequent circuit breakers.

Why set up circuit breakers? The history provides the answer

The circuit breaker mechanism was born out of a catastrophe in 1987. On October 19 of that year, known as “Black Monday,” the Dow Jones Industrial Average plummeted 22.61% in a single trading day, causing a global market crash. At that time, there was no circuit breaker, and the market’s free-fall wiped out countless investors’ assets.

After this disaster, regulators realized the need to establish some mechanism to prevent market panic. Their core logic was clear: during large market swings, investors tend to make decisions driven more by fear than rationality. Hitting the pause button to give everyone a breather is a necessary step to prevent further market collapse.

Circuit breakers also help prevent so-called “flash crashes.” For example, on May 6, 2010, such an extreme event occurred—an American trader used high-frequency trading to create a massive number of short positions in a short period, causing the Dow to plunge 1,000 points in 5 minutes. With circuit breakers in place, such sudden crashes have a braking mechanism.

Real cases of US stock market circuit breakers: 1997 and 2020

Since the establishment of the circuit breaker mechanism in 1987, triggering events have been infrequent. During the Asian financial crisis in 1997, the Dow fell 7.18%, triggering Level 1 circuit breaker, and trading paused for 15 minutes.

But the most recent and memorable series of circuit breakers was in 2020—the four consecutive circuit breakers.

Early 2020, the COVID-19 pandemic suddenly erupted, plunging the world into panic. Daily new infection records were broken, and countries implemented social distancing measures, causing economic activity to stall. By early March, the oil market experienced turmoil—Saudi Arabia and Russia failed to reach an agreement, and Saudi Arabia increased oil production, causing international oil prices to crash. This double shock triggered a chain reaction in the stock markets.

On March 9, the S&P 500 fell 7%, triggering Level 1; again on March 12; then on March 16; and finally on March 18—four times in just two weeks. Investors experienced four trading halts in that period. During this time, the Nasdaq dropped 26% from its February high, the S&P 500 fell 30%, and the Dow Jones declined 31%.

Some statistics show that Warren Buffett has only seen five US stock market circuit breaks in his over 50-year investing career, but many ordinary investors experienced four within a month. This number vividly illustrates the intense volatility of the 2020 market.

The dual effects of circuit breakers: Market rescue or amplifying chaos?

In theory, circuit breakers are meant to rescue the market—they can ease investor panic and prevent total market breakdown. During the 2020 downturn, each 15-minute pause gave investors time to think and also provided a window for government intervention. The US government quickly launched stimulus plans, and the Federal Reserve cut interest rates—these measures were based on the pause mechanism.

However, the flip side is that circuit breakers can sometimes exacerbate volatility. When investors see the market approaching a circuit breaker threshold, they may panic and rush to sell “before the halt,” accelerating the decline. Some may become more anxious because they cannot sell during the halt, which can magnify market panic.

Therefore, circuit breakers are a double-edged sword—they aim to stabilize the market but their actual effect depends on market psychology and policy coordination.

Market-wide circuit breaker vs individual stock circuit breaker: Two different mechanisms

Here’s a clarification of a commonly confused concept. US stock market circuit breakers are divided into two types.

One is market-wide circuit breaker, referring to the overall halt triggered by the S&P 500 decline thresholds discussed earlier.

The other is individual stock circuit breaker, or LULD (Limit Up-Limit Down). This mechanism applies to single stocks—if a stock’s price exhibits abnormal volatility (exceeding preset price limits), the exchange will impose a 15-second trading restriction. If after 15 seconds the price remains outside the limit, trading for that stock is paused for 5 minutes. This is to prevent flash crashes at the individual stock level.

Will the US stock market trigger circuit breakers again? What is the current market situation?

Circuit breakers usually occur in two scenarios: one is an unforeseen black swan event, and the other is a sudden adverse shock after reaching a market high.

Currently, risks in the US economy still exist—interest rate hikes by the Fed have not fully stopped, and recession fears linger. But on the other hand, the early 2023 rebound driven by the AI wave (especially ChatGPT) has injected new enthusiasm into the market. As of mid-April, the Nasdaq rose 16.15%, and the S&P 500 increased 8.2%. This indicates the market has recovered from last year’s pessimism.

On the policy front, the government will not sit idly by. When the banking turmoil occurred in March, the US Treasury quickly stepped in to secure deposits, and the Fed adjusted its policy pace. This rapid response greatly reduces the likelihood of market chaos.

In summary, the short-term probability of triggering a circuit breaker is low unless an unexpected black swan event occurs.

What should investors do if a circuit breaker occurs?

If unfortunately a circuit breaker is triggered again, do not panic. The most important principle at this moment is to protect principal and liquidity.

Specific strategies include: maintaining sufficient cash reserves to avoid forced selling at low prices; carefully selecting investment targets—during market turbulence, opportunities are fewer, so waiting for clearer signals is better; diversifying risk by having multiple income sources; and continuously learning and preparing for future investments.

In adverse macro environments, survival and resilience are more important than aggressive action. Protecting your principal is also protecting your future chance to rebound.

Summary

The US stock market circuit breaker is an “automatic protection device.” When the S&P 500 drops 7%, 13%, or 20% in a day, Level 1, 2, or 3 circuit breakers are respectively triggered. The purpose of this mechanism is to prevent market crashes caused by emotional panic. The most famous examples are Black Monday in 1987 and the four consecutive circuit breakers in 2020.

While circuit breakers serve a protective role, they can also sometimes intensify volatility—highlighting the market’s complexity. When facing US stock market circuit breakers, investors should neither panic excessively nor become complacent. Instead, they should ensure sufficient liquidity, exercise caution in investments, and keep learning to navigate uncertainties.