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What Are Upper Circuit And Lower Circuit In Stock Market

31 May 2023

Introduction

You often hear on television about stocks hitting upper or lower circuits in the stock market. But what are these upper circuits and lower circuits in the share market? 

These are limits on the share price that keep volatility in check. 

What is the upper circuit?

The upper circuit is like a guardrail for stock prices. Just like a guardrail protects you from going off the road, the upper circuit protects stock prices from going too high in quick time. When a stock hits the upper circuit, it's like hitting the guardrail - trading is temporarily halted to allow everyone to catch their breath and assess the situation. The percentage at which the upper circuit is set varies depending on how fast the stock moves and how much liquidity there is.

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What is the lower circuit?

Think of the lower circuit as a safety net for stocks. Just as a trapeze artist relies on a safety net to prevent a hard fall, the lower circuit prevents stocks from plummeting too quickly. When a stock's price hits the lower circuit, it's like the safety net has been deployed, and trading in that stock is temporarily halted. This gives investors a chance to catch their breath and reassess the situation, helping to prevent panic selling and excessive losses. So, next time you're trading stocks, remember that the lower circuit keeps you safe.

Why do stocks hit upper or lower circuits?

You'll often find stocks hitting upper or lower circuits due to the market's balance of demand and supply. If a sudden rush of demand for a stock surpasses the available supply, the stock's price can skyrocket and hit the upper circuit. On the other hand, if a sudden drop in demand for a stock surpasses the available supply, the stock's price can plummet and hit the lower circuit. To prevent wild price swings and to provide investors with a chance to re-evaluate their holdings, upper and lower circuits are put in place as a protective measure.

Let's understand it in simple terms. 

When you're investing and a stock hits its upper circuit, it's like a famous new restaurant everyone wants to try. Suddenly, there's a rush of people wanting a table, and the restaurant can't accommodate everyone at once. With upper circuits, it's possible to prevent the stock's price from skyrocketing in a single day, just like the restaurant can't serve everyone at once. This protects you from volatility and undue speculation.

On the other hand, when a stock hits its lower circuit, it's like a product recall for a popular gadget. News shows the gadget has a major flaw, and everyone stops buying it. The existing gadget owners can't sell it because no one wants it anymore. When no one is buying, the gadget's price might drop, and fear of investing in a falling product might lead to the price falling. To prevent this, lower circuits are set, just like the gadget company might recall the product to prevent further damage to its reputation.

What are market-wide circuit breakers?

In case of a sudden and drastic movement in the stock market, a market-wide circuit breaker system kicks in to prevent further damage. Think of it as a fire alarm but for the stock market. 

This system is triggered when the index, such as the BSE Sensex or the Nifty 50, moves up or down by 10%, 15%, or 20%. Once triggered, a coordinated trading halt is enforced nationwide across all equity and equity derivative markets. It is like putting the stock market on hold so investors can catch their breath and reevaluate their positions.

After a breach of the index-based market-wide circuit filter, the market will reopen with a pre-open call auction session. The duration of the market halt and the pre-open session is determined as follows:

Trigger limit Trigger time Market halt duration Pre-open call auction session post market halt
10% Before 1:00 pm. 45 Minutes 15 Minutes
At or after 1:00 pm upto 2.30 pm 15 Minutes 15 Minutes
At or after 2.30 pm No halt Not applicable
15% Before 1 pm 1 hour 45 minutes 15 Minutes
At or after 1:00 pm before 2:00 pm 45 Minutes 15 Minutes
On or after 2:00 pm Remainder of the day Not applicable
20% Any time during market hours Remainder of the day Not applicable

*Source: NSE India & BSE India

How to use circuits or price bands on stocks to your advantage?

As a stock market investor, you may wonder how to take advantage of upper and lower price bands. Here are some tips:

  1. Monitor the circuits: Keep an eye on the upper and lower circuits of the stocks you're interested in. This will give you an idea of the stock's volatility and may help you avoid any sudden price movements.
  2. Use stop-loss orders: Place stop-loss orders to sell your stock if it reaches the lower circuit. This way, you can limit your losses if the stock falls below your expected limit.
  3. Take advantage of opportunities: If a stock you're interested in hits its lower circuit, it may be a good time to buy. Similarly, selling a stock when it reaches its upper circuit may make sense.
  4. Avoid herd mentality: Don't follow the crowd blindly. Just because a stock hits its upper circuit doesn't mean it will continue to rise. Similarly, just because a stock hits its lower circuit doesn't mean it's a bad investment.
  5. Do your research: Always do your due diligence before investing in a stock. Look at its fundamentals, such as earnings, revenue, and market share. This way, you will better understand the stock's potential and can make an informed investment choice.

You now have a solid understanding of the upper and lower circuits in the stock market. Think of the market like a rollercoaster - it has ups and downs and can leave you feeling dizzy and disoriented. However, with the safety features of these circuits, you can confidently navigate the ride without fear of financial whiplash. So buckle up, keep an eye on those limits, and enjoy the thrilling investing journey!

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