How to Avoid Getting Stuck in the Lower Circuit Stock?
Can I Sell a Stock Locked in the Lower Circuit the next-day?
As the cool breeze brushed against my face one morning, I found myself aboard a local train, surrounded by the bustling energy of fellow commuters. Among them, a group of working professionals caught my attention, engrossed in an animated discussion about a particular stock. It seemed this stock had been relentlessly hitting lower circuit after lower circuit, leaving them stranded without an exit strategy. Intrigued by their dilemma, I felt compelled to delve deeper into the intricate workings of lower circuits and share experience how one can navigate the treacherous waters of this market phenomenon. Let's take a deep dive to understand nitty-gritty of this.
What is a Lower Circuit?
A lower circuit is a way for SEBI to regulate the stock market and safeguard investors while maintaining stability. It sets limits on how much a stock's price can drop in a single day before trading is temporarily stopped. Lower circuits kick in when a stock reacts strongly to negative news, triggering panic selling among investors.
Lower circuits prevent a stock from plummeting further on a given day by capping its decline at a specified percentage. For example, if a stock's lower circuit is set at 20 per cent, trading will be halted if its price falls by that amount.
Why Do Stocks Hit the Lower Circuit?
Stocks can tumble for various reasons, ranging from widespread industry sell-offs to specific negative events impacting a particular company. This could include regulatory changes affecting revenue, product bans, accounting irregularities, or the withdrawal of interest by major investors like AMCs or FIIs. Sometimes, large institutional investors making significant block trades can also trigger downward spirals. Additionally, there's the possibility of market manipulation by operators. Identifying the exact cause of a stock's fall can be challenging, and by the time it's understood, the damage may already be done.
Is it Possible to Sell a Stock Locked in the Lower Circuit?
No, attempting to sell a stock locked in the lower circuit contradicts the purpose of implementing circuit breakers, which is to halt any additional decline in the stock's value. In such instances, there are only sellers and no buyers available at the underlying price, rendering selling orders unable to be executed. Throughout the trading day, the stock remains immobilized at the lower circuit level unless new buyers emerge to intervene.
In situations like these, intraday buyers find themselves in a tough spot because intraday trading requires them to close their positions before the end of the trading day. However, if a stock is locked in the lower circuit, they're unable to sell their positions. In such cases, their intraday positions automatically convert into delivery, and they must ensure they have enough funds in their trading account to take delivery of the stocks by the next trading session. If they fail to do so, their broker will sell the stocks to cover the shortfall in the next session.
The best option for exiting a stock stuck in the lower circuit is to place a limit order close to the last traded price. If there's fresh buying activity for the stock later in the trading session, the order may get executed. However, there's no guarantee of this, and if there are no buyers before the market closes, the order will be canceled.
To illustrate, let's consider an example: Stock ABC opened at Rs 150 and hit a lower circuit of 5 percent, closing at Rs 142.5. Mr. Anil bought 500 shares of ABC intraday at Rs 146.2 per share. When the stock got locked in the lower circuit, Mr. Anil couldn't close his positions by the end of the day. Now, he needs to ensure he has enough funds in his trading account by the next day to cover the full value of the shares he bought. If not, his broker will sell the shares to cover the shortfall, resulting in a loss for Mr. Anil.
Can I Sell a Stock Locked in the Lower Circuit the next-day?
If you're looking to sell a stock trapped in the lower circuit, one straightforward way is to place an order during the pre-open session. Just set up a sell order at 9 AM when the pre-market session begins, and you're good to go.
How to Avoid Getting Stuck in the Lower Circuit?
It's important to recognize that you can't sell your stocks when they're in the lower circuit. However, there's a simple strategy to help you exit your positions before the stock hits the lower limit. It's called a stop loss. By setting a stop loss above the lower circuit price, you can protect yourself from getting trapped. For example, if you bought shares of company ABC at Rs 146.2 and the lower circuit is at Rs 142.5, you can set a stop loss at any price above Rs 142.5 to avoid getting stuck.
Another method is to use a trailing stop loss limit order. Let's say you've bought a stock and it's seen a good rise on the back of buoyant sentiment in the broader markets, but you're unsure about its future performance. You can set a trailing stop loss marginally above the lower circuit limit of the day. This way, you'll continue to ride the stock's upward trend while also ensuring a good night's sleep without worrying about sudden drops.
Conclusion:
The lower circuit, established by SEBI, serves as a safety measure to halt unusual dips in stock prices. It ensures that no further selling occurs during the trading session, as there are no buyers available at the lower circuit level. SEBI periodically reviews and adjusts lower circuit levels based on stock liquidity and trading volumes. While encountering a lower circuit may be concerning, it's important for investors to remember that a single bad day doesn't negate the stock's overall performance. Hitting the lower circuit doesn't necessarily indicate a serious flaw in the company's fundamentals. Instead, it should be viewed as a temporary setback, with buyers typically returning to the market in subsequent trading sessions.