What are exchanges changing?
Exchanges are changing the way the official closing prices of certain stocks are decided. The daily closing price is one of the most important numbers for market participants. It is used to calculate index closing levels, mutual fund portfolios, and settle derivatives contracts.
At present, a stock's closing price is based on the average price of trades done in the last 30 minutes, between 3 PM and 3:30 PM.
futures and options segment will have a separate closing auction. Their final closing price will be decided through this auction, instead of using the average price over last 30 minutes.
How will the new closing auction work?
For stocks part of the F&O segment, normal trading will end at 3:15, after which the closing auction will begin. During this session, buy and sell orders are collected instead of being executed immediately. The exchanges will then calculate a single price at which the maximum number of buy and sell orders can be matched. That price becomes the stock's official closing price.
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What's the big deal about last-minute order changes? Why should it matter?
One reason for the change is that there have been complaints about large orders being placed at the close of trading in a bid to influence the final price. Think of it as the final over of a cricket match. A few big shots in the last moments can alter the final score. Similarly, a few large trades just before the market closes can influence the closing price.
A closing auction helps find one common price at which the maximum quantity can be traded. This is expected to make the closing price more reliable and reduce the impact of sudden orders placed near the end of the session.
Another key reason for the change is to help mutual funds, especially passive funds, execute all their buy and sell orders in the closing auction. This will help them transact at or very close to the official closing price. Currently, asset managers place orders between 3 PM and 3:30 PM at different prices depending on available liquidity, which can lead to tracking errors. Brokerage Zerodha said the new rule helps improve the efficiency of the execution of large orders.
Then, what's the relevance of the period between 3:30 and 3:40?
By around 3:35, the closing auction for stocks that have F&O contracts will be over. However, F&O contracts continue trading until 3:40. This gives F&O traders a few extra minutes to react to the stock's final closing price before derivatives trading ends.
Does this mean the market will now close at 3:40?
No. For most stocks, trading will continue to end at 3:30. For stocks that have futures and options (F&O) contracts, normal cash-market trading will end at 3:15, after which a closing auction will determine the final closing price. Only the futures and options market will continue trading until 3:40.
Who will be impacted by the new rules? Do traders need to do anything differently?
The biggest impact will be on active traders, proprietary desks and other institutions that trade near the market close. Brokers could advance intraday square-off timings, so traders should check the revised cut-off times. Investors in non-F&O stocks are unlikely to notice much difference.
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