Sebi Proposes Overhaul of Closing Auction Session and Derivatives Settlement

The Securities and Exchange Board of India (Sebi) has unveiled a series of proposed reforms to the recently implemented Closing Auction Session (CAS) and the associated derivatives settlement mechanism. The regulator released a consultation paper on Saturday, seeking to address market volatility and pricing concerns that have emerged since the new auction framework was launched on August 3. The proposed changes aim to refine how settlement prices are determined on expiry days and adjust the operational timings of the trading day to improve market stability.

Market participants have raised significant concerns regarding the impact of the CAS on index and stock derivatives, particularly on expiry days when trading activity is historically intense. Sebi's review acknowledged that the current methodology has led to hyperactivity and potential misinterpretation of index values. The regulator is now soliciting public feedback on these proposals until October 3, marking a significant step toward recalibrating the auction framework to better align with broader market conditions.

Sebi has introduced two distinct options for determining the settlement price of index and single-stock derivatives on expiry days. The first option proposes a Blended Volume-Weighted Average Price (VWAP) methodology. Under this model, the settlement price would be derived from trades executed during the final 30 minutes of the Continuous Trading Session (CTS) and the 10-minute CAS period. Crucially, the contribution of each period to the final price would be determined by its actual traded value rather than a fixed weighting, ensuring the price reflects a broader spectrum of market transactions.

Alternatively, the regulator has proposed retaining the existing CTS VWAP methodology as an interim measure. This would allow market participants to continue using the established price discovery method for at least one year. Sebi noted that this transition period is intended to provide sufficient time for the market to gain familiarity with the CAS framework and to ensure that adequate liquidity and participation levels are achieved before moving to the more complex blended pricing model.

To streamline the transition between continuous trading and the auction session, Sebi has proposed two alternative schedules for market timings. Option A suggests continuing continuous trading for CAS-eligible stocks until 3:30 pm, followed by a CAS period from 3:31 pm to 3:40 pm, with a final derivatives trading window ending at 3:45 pm. Option B proposes an earlier cut-off, with continuous trading ending at 3:15 pm, the CAS running from 3:15 pm to 3:25 pm, and derivatives trading concluding at 3:30 pm.

Both alternatives include a reduction in the transition period between the continuous session and the auction, shortening it from five minutes to one minute. Additionally, the post-CAS derivatives trading window would be reduced from 10 minutes to five minutes. Sebi indicated that feedback from market participants suggests that a shorter trading window following the auction is sufficient for managing post-auction activity, thereby reducing the duration of potential volatility.

In a move to prevent market confusion, Sebi has proposed discontinuing the dissemination of the Indicative Index Value (IIV) during the CAS. The regulator observed that many participants have misinterpreted the IIV as an actual traded value, leading to speculative positions based on indicative rather than realized prices. Sebi clarified that the IIV, derived from evolving Indicative Equilibrium Prices (IEP) of constituent securities, does not represent a price at which an actual transaction has occurred.

While the IIV will be removed, the regulator intends to continue providing IEPs for individual securities. Sebi emphasized that IEPs are indicative and evolving values based on the order book, and they should not be conflated with the actual index level. By removing the IIV, the regulator aims to reduce the risk of participants taking positions based on misleading signals during the auction period.

Sebi's consultation paper also addresses the operational mechanics of order management during the auction. The regulator has proposed restricting the cancellation of limit orders placed more than 1 per cent away from the reference price during the CAS. Orders placed within the 1 per cent band will remain eligible for cancellation under the existing framework, while price-improving modifications will continue to be permitted within the broader 3 per cent price band.

the regulator suggested allowing unexecuted Iceberg orders at the end of the continuous session to be converted into normal limit orders. This change would require the entire pending quantity to be disclosed in the CAS order book, enhancing transparency during the auction. These measures are designed to curb excessive volatility and ensure that the auction process remains orderly, particularly during the high-stakes period of contract expiry.

Sebi has invited public comments on these proposals until October 3, 2026. The regulator will evaluate the feedback received from traders, investors, and market institutions before finalizing the changes to the CAS and derivatives settlement framework. The current proposals reflect a data-driven approach, following an analysis of the first five expiries under the new system, which showed significantly higher premium turnover per minute during the auction compared to the previous 30-minute VWAP period. The final decision will determine the long-term operational structure of the Indian equity market's closing session.