Quick Answer
A trade executed during Normal Market Hours is not reviewable as clearly erroneous unless it fits one of three gateways. Two yardsticks then measure it: the Numerical Guidelines in the rule's own table, or the Percentage Parameters in the appendix to the Limit Up-Limit Down Plan.
Two questions decide almost every scenario here. First, is the trade reviewable at all. Second, which of the two price yardsticks it gets measured against.
The execution time answers the first question and starts the second. Outside Normal Market Hours the Numerical Guidelines measure the trade. Inside the window the gateway that opened the review picks the yardstick, and only under the third gateway does the security itself decide.
When Is a Transaction Reviewable During Normal Market Hours?
If the execution time of the transactions under review is during Normal Market Hours (9:30 a.m. to 4:00 p.m. Eastern Time), the transaction will not be reviewable as clearly erroneous unless it fits one of three gateways.
Gateway one. The transaction is in an NMS Stock, a national market system stock, that is not subject to the Limit Up-Limit Down (LULD) Plan. In that case the Numerical Guidelines apply to that stock.
Gateway two. The transaction meets any one of three circumstances:
- It was executed at a time when Price Bands under the Plan were not available
- It is the result of a member's technology or systems issue that results in the transaction occurring outside the applicable Price Bands under the Plan, through the technology-issue provision covered in this unit's lesson on multi-day events, trading halts and exchange coordination
- It is executed after the primary listing market for the security declares a regulatory trading halt, suspension, or pause under the trading-halt paragraph
A transaction reaching review through gateway two is found clearly erroneous if the price of the subject transaction to buy is greater than, or to sell is less than, the Reference Price by an amount that equals or exceeds the applicable Percentage Parameter defined in the appendix to the Plan.
Gateway three. The transaction involved a Reference Price that a FINRA officer determines is erroneous because it clearly deviated from the theoretical value of the security. That applies in either of two settings: a corporate action or new issue, or a security that enters a Trading Pause pursuant to the Plan and resumes trading without an auction.
In those circumstances FINRA may use a different Reference Price. The transaction is then found clearly erroneous if its price to buy is greater than, or to sell is less than, the new Reference Price by an amount that equals or exceeds the Numerical Guidelines or Percentage Parameters, as applicable depending on whether the security is subject to the Plan.
Exam Tip: Gotchas
- The clock decides before the security does. Outside Normal Market Hours the Numerical Guidelines measure the trade whether or not the security is subject to the Plan, and the three gateways matter only to a trade executed inside the window.
- Gateway one and gateway two point at different yardsticks. An NMS Stock outside the Plan is measured against the Numerical Guidelines, while the three gateway-two circumstances are measured against the Percentage Parameter in the Plan's appendix.
- Gateway three's second setting needs both halves. The security must enter a Trading Pause pursuant to the Plan and resume trading without an auction, so a pause that reopens with an auction is not that setting.
Which Percentage Parameter Applies?
A Percentage Parameter is the percentage set for the security's tier in the Plan's appendix. The appendix builds two tiers.
- Tier 1: all NMS Stocks included in the S&P 500 Index and the Russell 1000 Index, plus the exchange-traded products (ETPs) identified in Schedule 1 to the appendix
- Tier 2: all NMS Stocks other than those in Tier 1, provided, however, that all rights and warrants are excluded from the Plan
| Reference Price of the NMS Stock | Tier 1 Percentage Parameter | Tier 2 Percentage Parameter |
|---|---|---|
| More than $3.00 | 5% | 10% |
| Equal to $0.75 and up to and including $3.00 | 20% | 20% |
| Less than $0.75 | The lesser of $0.15 or 75% | The lesser of $0.15 or 75% |
Two further rules sit beside that table. For a Tier 2 NMS Stock that is a leveraged ETP, the applicable parameter is multiplied by the leverage ratio of the product, and the appendix states no matching multiplier for Tier 1. Leveraged ETPs are also excluded from Schedule 1.
The Reference Price used to decide which Percentage Parameter applies during a trading day is based on the closing price of the NMS Stock on the Primary Listing Exchange on the previous trading day, or, if no closing price exists, the last sale on the Primary Listing Exchange reported by the Processor.
The Price Bands themselves, the Trading Pauses they produce, and the doubling and tripling of these parameters are covered in the unit on disseminating quotes and trade advertisements.
Exam Tip: Gotchas
- Two different prices are both called the Reference Price here. The one that selects the tier parameter is based on the previous trading day's closing price; the one the trade is measured against is the consolidated last sale immediately prior to the execution under review.
- The two lower rows differ across the tiers only for a leveraged product. Tier 1 and Tier 2 differ above $3.00, at 5 percent against 10 percent. A Tier 2 leveraged ETP then multiplies whichever parameter applies by the product's leverage ratio, so the two lower rows can differ across the tiers as well.
- The Plan excludes all rights and warrants. An NMS Stock the Plan does not reach falls into gateway one during Normal Market Hours and is measured against the Numerical Guidelines rather than a Percentage Parameter.
What Are the Numerical Guidelines?
Subject to the additional factors below, a transaction executed outside Normal Market Hours, or eligible for review under gateway one, shall be found clearly erroneous if the price of the transaction is away from the Reference Price by an amount that equals or exceeds the guideline in this table.
| Circumstance or product | Normal Market Hours, where eligible under gateway one | Outside Normal Market Hours |
|---|---|---|
| Reference Price greater than $0.00 up to and including $25.00 | 10% | 20% |
| Reference Price greater than $25.00 up to and including $50.00 | 5% | 10% |
| Reference Price greater than $50.00 | 3% | 6% |
| Multi-Stock Event involving five or more, but less than twenty, securities whose executions occurred within a period of five minutes or less | 10% | 10% |
| Multi-Stock Event involving twenty or more securities whose executions occurred within a period of five minutes or less | 30%, subject to the twenty-or-more provision below | 30%, subject to the twenty-or-more provision below |
| Leveraged exchange-traded fund or exchange-traded note securities | Not applicable | The Normal Market Hours guideline multiplied by the leverage multiplier |
The last row reaches leveraged exchange-traded fund (ETF) and exchange-traded note (ETN) securities, and the rule's own worked example of the multiplier is 2x. It states no Normal Market Hours guideline for them at all.
Exam Tip: Gotchas
- The Normal Market Hours column applies only to a gateway-one trade. It is not a general during-hours guideline, so a trade inside the window that reaches review through gateway two or three is measured differently.
- The outside-hours guideline is double the during-hours guideline in each price band. Ten against twenty, five against ten, three against six.
- A Multi-Stock Event is defined by a count and a window together. Five or more but less than twenty securities, or twenty or more securities, in each case with executions inside a period of five minutes or less.
How Does FINRA Handle a Multi-Stock Event of Twenty or More Securities?
Multi-Stock Events involving twenty or more securities may be reviewable as clearly erroneous if they occur outside Normal Market Hours or are eligible for review under gateway one.
During such events the number of affected transactions may be such that immediate finality is necessary to maintain a fair and orderly market and to protect investors and the public interest. In those circumstances FINRA may use a Reference Price other than the consolidated last sale.
To ensure consistent application across the markets when this provision is invoked, FINRA will promptly coordinate with other self-regulatory organizations (SROs) to determine the appropriate review period, which may be greater than the period of five minutes or less that triggered the provision.
That same coordination sets the Reference Price. FINRA coordinates with the other SROs to select one or more specific points in time prior to the transactions in question, and to use transaction prices at or immediately prior to those selected points as the Reference Price.
FINRA will then nullify as clearly erroneous all transactions priced equal to or greater than 30% away from that Reference Price in each affected security, during the review period FINRA and the other SROs select.
Exam Tip: Gotchas
- The review period can be longer than the five minutes that triggered the provision. The five-minute test identifies the event, and the coordinated review period is set afterwards and may be wider.
- The sweep test is stated as equal to or greater than 30 percent away. It runs across each affected security for the whole selected review period, rather than trade by trade.
- This is one of the three cases that let FINRA move off the consolidated last sale. In the same coordination FINRA picks one or more points in time before the transactions and uses prices at or immediately prior to them.
What Else Can the Officer Consider?
Except in the context of a Multi-Stock Event involving five or more securities, a FINRA officer may also consider additional factors to determine whether a transaction is clearly erroneous, provided the execution occurred outside Normal Market Hours or is eligible for review under gateway one.
The rule's factors include but are not limited to:
- System malfunctions or disruptions
- Volume and volatility for the security
- Derivative securities products that correspond to greater than 100% in the direction of a tracking index
- News released for the security
- Whether trading in the security was recently halted or resumed
- Whether the security is an initial public offering
- Whether the security was subject to a stock split, reorganization, or other corporate action
- Overall market conditions
- Opening and Late Session executions
- Validity of the consolidated tapes' trades and quotes
- Consideration of primary market indications
- Executions inconsistent with the trading pattern in the stock
Each additional factor shall be considered with a view toward maintaining a fair and orderly market and the protection of investors and the public interest.
Exam Tip: Gotchas
- The additional factors switch off inside a Multi-Stock Event of five or more securities. The exception is written into the same sentence that grants the discretion.
- The factor list is open. It is introduced as "include but are not limited to," so an option presenting these twelve as the complete set reads more narrowly than the rule.
- The factors carry the same outside-hours proviso as the guidelines. They are available only where the execution occurred outside Normal Market Hours or is eligible for review under gateway one.
Which Price Is the Reference Price?
The Reference Price is the consolidated last sale immediately prior to the execution or executions under review, except in three cases:
- A Multi-Stock Event involving twenty or more securities, as described above
- An erroneous Reference Price, as described in gateway three
- Other circumstances, such as relevant news impacting a security or securities, periods of extreme market volatility, sustained illiquidity, or widespread system issues
That third case carries two conditions of its own. Use of a different Reference Price must be necessary for the maintenance of a fair and orderly market and the protection of investors and the public interest, and the circumstances must have occurred outside Normal Market Hours or be eligible for review under gateway one.
Where gateway three is reached through a corporate action or new issue, FINRA would consider a number of factors to determine a new Reference Price based on the theoretical value of the security. The rule names four, including but not limited to:
- The offering price of the new issue
- The ratio of the stock split applied to the prior day's closing price
- The theoretical price derived from the numerical terms of the corporate action transaction, such as the exchange ratio and spin-off terms
- For an over-the-counter up-listing, the price of the security as provided in the prior day's FINRA Trade Dissemination Service final closing report
Where gateway three is reached through a security that entered a Trading Pause pursuant to the Plan and resumed trading without an auction, the Reference Price will be the last effective Price Band that was in a limit state before the Trading Pause.
Exam Tip: Gotchas
- The default Reference Price is a last sale, not a quote. It is the consolidated last sale immediately prior to the execution under review, and only the three listed cases displace it.
- The theoretical-value list is open even though it names four items. It is introduced as "including but not limited to," and the up-listing factor is the only one tied to a particular market.
- The Trading Pause branch uses no theoretical value at all. Its Reference Price is the last effective Price Band that was in a limit state before the pause.
What Should You Check on Exam Day?
- Fix the execution time first. Outside Normal Market Hours the Numerical Guidelines apply; inside it, find the gateway before choosing a yardstick.
- Confirm which Reference Price the scenario means: the previous day's close that picks the tier parameter, or the consolidated last sale the trade is measured against.
- Check the comparison reads "equals or exceeds," not "exceeds." A trade sitting exactly at the guideline meets the test.
- Confirm a Multi-Stock Event has both halves: the count of securities and executions within a period of five minutes or less.
- Check whether the additional factors are even available. They switch off in a Multi-Stock Event of five or more securities.