The market regulator has proposed an internationally followed practice of close-auction session (CAS) to determine the closing price of a stock, instead of the current practice of using volume-weighted average price (VWAP). With the increase in passive investing, the regulator is concerned that investors bear the brunt of any difference in index tracking, particularly on event days when there could be an increase in volatility.

During a call auction session, buyers and sellers quote their prices, which are then used to determine an equilibrium price and is set as the closing price of a security. The VWAP mechanism weighs the prices of a security during the last thirty minutes of the trading day, by the volume executed at each price.

In a consultation paper issued on Thursday, December 5, the Securities and Exchange Board of India (SEBI) proposed that CAS may be introduced as a call-auction mechanism for determining closing price of each stock in equity cash segment. CAS may be implemented as a separate session of 15 minutes from 15:30 - 15:45.

The SEBI paper said, "While the said mechanism (VWAP) facilitates determination of a fair market closing price based on trading interest in stocks spread through the last half an hour of the trading day, it does not enable the interested buyers and sellers to trade exactly at the Close Price of the day".

According to the regulator, since the closing price in India is determined by the last half an hour VWAP, some international passive fund houses have said that the current closing price mechanism can cause significant price volatility across a range of stocks, as well as high risk of large orders not being completed, which then adds to the tracking difference of a passive fund. This is particularly significant during large event days, such as, on index rebalancing days and derivative expiry days.

The paper suggests that CAS be applied to stocks in a phased manner. To being with, it would be be applicable to stocks on which derivatives are available, to ensure this is only offered on stocks on which have sufficient liquidity.

Its implementation could be split into four sessions: A reference price determination period, an order input period, a no cancellation period including a random close of order entry followed with the final stage of trade confirmation and order matching.

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