We’ve all wished that we could choose a stock and get a return of 50%, 100%, or even 1,000% on the day we bought it. This may not be possible, though, because there may be limits to how far the price of a stock can go. In India, the Securities and Exchanges Board of India (SEBI) decides what the upper and lower circuits are.
Here, we explain what upper and lower circuits are, how stocks can reach them, and what happens when they do.
What is the upper circuit?
The upper circuit is the highest point where the price of a stock above which it can’t go up in one day. Stocks that are in the upper circuit have a lot of buyers but zero sellers. The closing price from the day before is used to figure out upper circuits.
Some stocks may have upper circuits that are 2% above the price at which they closed the day before. Other stocks can have upper circuits that are 5%, 10%, or 20% above where they closed the previous day.
The price of a stock can’t rise more than its upper circuit in a single trading session. But if some people start to sell, the prices can go down.
What is the lower circuit?
The lower circuit is the point where the price of a stock or the value of an index could drop the most. Stocks that a lot of people want to sell but not many people want to buy may drop in price.
Lower circuits are also calculated using the stock’s closing price from the day before, though they may be different for each stock.
For some stocks, the lower circuit could be 2% lower than the last closing price. For other companies, it could be 5%, 10%, 15%, or 20% lower.
A company’s price may not fall below its lower circuit in a single trading session, but if investors start buying the stock, the price may go up.
What makes stocks trade in higher or lower circuits?
Let’s look at some examples of stocks that have touched the upper or lower circuit to learn more about why this might happen.
When a stock hits its upper circuit, it has:
Imagine that a new pharma company unexpectedly beats the market leader in terms of market share. This would cause a lot of people to want to buy this stock at once.
The people who own shares in such a company are not likely to sell them. But people who want to buy these stocks may offer more money for them. Upper circuits can protect investors from volatility and unwarranted speculation, like the pump-and-dump operation.
When a stock is in the lower circuit
Let’s say you heard that a certain business was doing business in a way that wasn’t right. The government is likely to take harsh action against this company. The shares of this company are no longer worth much. Since no one would want to buy, the people who already own shares won’t be able to sell them.
If no one buys a stock, its price might go down. The stock price might keep going down because investors don’t want to buy stocks that are already going down. So that this doesn’t happen, lower circuits are set up.
So, in theory, a stock could reach its circuit limits if something happened that changed how desirable the stock was. For a stock to move to the upper or lower circuit, there must be a big change in how people feel about it. Sometimes, when the market is manipulated, stocks hit their upper or lower circuits.
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