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Understanding the Upper Circuit and Lower Circuit in Stock Market

Circuit limits are price bands set by stock exchanges to control extreme volatility in stocks and indices. Regulated by SEBI, they define the maximum price rise (upper circuit) or fall (lower circuit) allowed in a session. Hitting these limits triggers trading pauses or restrictions to maintain market stability and protect investors.

What is Upper Circuit in the Stock Market?

The upper circuit is the maximum price limit a stock or index can reach in a single trading session, as set by the stock exchange. When a stock touches its upper circuit, trading is halted temporarily or for the rest of the session to curb excessive volatility.

This occurs when demand significantly exceeds supply, with buyers willing to pay higher prices but no sellers available. Circuit limits vary based on stock categories and are regulated by SEBI to ensure market stability and prevent manipulation.

Key Features of Upper Circuit

When a stock hits its upper circuit, it indicates strong bullish momentum and high demand.
At this level, there are only buyers and no sellers, making it difficult for new investors to enter.
It is usually triggered by positive news, such as strong earnings, favorable government policies, or industry growth.
Once the upper circuit is hit, trading may be paused temporarily or continue with restrictions.

Why Does a Stock Hit the Upper Circuit?

A stock hits the upper circuit when there is strong buying interest from retail and institutional investors, often driven by positive earnings reports, new business deals, or favorable government policies. Sectoral growth and speculative trading can also contribute to investor frenzy, pushing the stock price to its maximum permissible limit for the day.

Example of Upper Circuit

If a stock closes at ₹100 and has a 10% upper circuit, it can rise to a maximum of ₹110 in the next session. After reaching ₹110, no further upward movement is allowed for the day unless the exchange revises the circuit limits.

What is Lower Circuit in the Stock Market?

The lower circuit is the minimum price limit a stock or index can fall to in a single trading session, as set by the stock exchange. When a stock touches its lower circuit, trading is halted temporarily or for the rest of the session to control excessive volatility.

This happens when selling pressure is high, with more sellers than buyers, causing the stock price to decline rapidly. SEBI regulates circuit limits to maintain market stability and prevent panic selling.

Key Features of Lower Circuit

When a stock touches its lower circuit, it indicates a bearish trend and heavy selling pressure.
At this point, only sellers exist, and no buyers are willing to purchase the stock.
It usually happens due to negative news, such as poor earnings, regulatory issues, or global market declines.
Similar to the upper circuit, trading may be halted temporarily when the lower circuit is reached.

Why Does a Stock Hit the Lower Circuit?

A stock hits the lower circuit when panic selling intensifies due to market crashes, poor earnings, or negative economic trends. Regulatory actions, lawsuits, or financial fraud cases can further erode investor confidence. Geopolitical issues and heavy institutional sell-offs or bulk stock dumping also contribute to sharp price declines, triggering the lower circuit limit.

Example of Lower Circuit

If a stock closes at ₹200 with a 5% lower circuit, it can drop to a minimum of ₹190 in the next session. If it hits ₹190, it cannot go lower for the rest of the day unless the exchange revises the limits.

Why Are Upper and Lower Circuits Important?

The role of circuit limits are crucial in maintaining fair and orderly trading by:

Prevents Market Manipulation: Stops excessive speculation and pump-and-dump schemes, preventing extreme price volatility and panic selling.

Protects Retail Investors: Reduces extreme volatility that can lead to heavy losses, allowing investors time to absorb news and make informed decisions.

Ensures Market Stability: Helps control panic selling and over-enthusiastic buying, protecting retail investors from market manipulation and sharp price swings.

Encourages Fair Trading: Ensures stock prices move in a controlled, realistic manner, ensuring the stability and integrity of the stock market.

Investor Tip: Always check a stock’s circuit limit before trading, especially if it has low liquidity or is in news-driven movements.

Factors Driving Upper and Lower Circuit Limits

The stock market in India is primarily determined by supply and demand dynamics. Let us study some of the key factors that drive the circuit limits in the stock market:

Mergers and Acquisitions: Corporate mergers or acquisitions can boost investor confidence, driving stock prices up. However, concerns like increased debt or integration challenges can reduce demand and lower prices.

Political Factors: Political stability and favorable policies can enhance investor confidence, pushing stock prices higher, while political unrest or instability can have the opposite effect.

Trade Agreements: Favorable trade deals can increase demand for stocks of benefiting companies, while unfavorable agreements may lead to lower demand.

Interest Rates: Higher interest rates typically discourage borrowing and investment, leading to lower stock prices. Conversely, lower interest rates encourage investment, pushing prices higher.

Company Performance: Strong financial results and growth prospects attract investors, increasing demand for a company’s stock, whereas weak performance can lead to decreased interest and declining prices.

Expansion and Insolvency: Announcements of business expansion can raise investor expectations, boosting demand, while insolvency concerns can erode confidence and lower stock prices.

Investor Sentiment: Positive news or outlook can fuel buying interest and push stock prices up, whereas negative developments can trigger sell-offs and drive prices down.

Global Events: International developments such as geopolitical tensions, pandemics, or economic shifts can influence stock prices.

Five Essential Facts About Upper and Lower Circuits

Circuit limits are determined based on the previous day’s closing price on stock exchanges.
The stock exchange’s website provides updated circuit filter information.
An upper circuit occurs when demand exceeds supply, while a lower circuit happens when supply outweighs demand.
Securities and Exchange Board of India (SEBI) regulates and sets circuit filters in India.
When a stock hits its upper circuit, there are only buyers and no sellers. Conversely, at the lower circuit, there are only sellers and no buyers.

How Are Circuit Limits Set in the Stock Market?

Stock exchanges set circuit limits to ensure that price movements remain within a controlled range. These limits vary based on a stock’s volatility, liquidity, and historical price movements.

These limits set the maximum percentage a stock or index can rise or fall within a single trading session. Once the circuit limit is reached, trading may be temporarily halted to prevent excessive volatility.

Circuit Limits for Individual Stocks

For individual stocks, circuit limits are determined based on trading activity, price volatility, and liquidity. The stock exchange assigns one of the following circuit limits:

2% Limit: Applied to highly volatile stocks.

5% Limit: Used for moderately volatile stocks.

10% Limit: Assigned to stable stocks with moderate liquidity.

20% Limit: Given to highly liquid and less volatile stocks.

These limits are determined using the previous day's closing price. When a stock hits its circuit limit, trading is temporarily paused or restricted.

Circuit Breakers for Market Indices (Sensex & Nifty)

For major market indices like Sensex and Nifty 50, broader circuit breakers are applied to halt trading in case of extreme fluctuations. These are set at:

10% Movement: Trading is halted for 45 minutes (if triggered before 1:00 PM), 15 minutes (if between 1:00 PM - 2:30 PM), or no halt (if after 2:30 PM).

15% Movement: Trading is halted for 1 hour (if before 1:00 PM), 30 minutes (if between 1:00 PM - 2:30 PM), or no halt (if after 2:30 PM).

20% Movement: Trading is stopped for the rest of the day.

Special Cases Related to Dynamic Price Bands

Some stocks and securities do not have fixed circuit limits but instead follow dynamic price bands, which adjust based on market movements:

Stocks in the F&O (Futures & Options) segment initially have a 10% circuit limit, but exchanges can expand it to 15% and 20% if needed.

Newly listed IPOs often have price bands of 5% or 10%, which are revised dynamically based on trading volume and demand.

Highly liquid stocks and ETFs may have temporary relaxations in circuit limits based on market conditions.

Conclusion

Upper and lower circuits play a vital role in maintaining stock market discipline and investor protection. They help control wild price swings caused by speculative trading, panic selling, or excessive enthusiasm.

While these mechanisms stabilize the market, investors must remain cautious and analyze a stock’s fundamentals, liquidity, and historical performance before investing. Understanding circuit limits enables traders to make informed and strategic investment decisions, reducing unnecessary risks.

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Frequently Asked Questions (FAQs)

1. What happens when a stock touches the upper circuit?

When a stock touches the upper circuit, no more buy orders can be placed at a higher price, and trading may be temporarily paused due to excessive demand.

2. Why does a stock hit the lower circuit?

A stock reaches its lower circuit due to panic selling, negative news, or market crashes, leading to a lack of buyers.

3. Can I sell a stock when it is in the lower circuit?

No, if a stock is in the lower circuit, there are no buyers available, making it difficult to sell until demand reappears.

4. Are circuit limits the same for all stocks?

No, different stocks have different circuit limits (2%, 5%, 10%, etc.), based on their volatility, liquidity, and stock exchange regulations.

5. What happens if NIFTY 50 or Sensex hits a circuit limit?

If a market index like NIFTY 50 or Sensex hits a circuit limit, trading is halted for a specific period to allow stabilization before resuming.