SEBI proposes changes to expiry-day settlement price methodology
Markets regulator SEBI on Saturday proposed changes to the methodology for determining expiry-day settlement prices of index and single-stock derivatives, following a review of the newly introduced closing auction session (CAS) framework.
In its consultation paper, Sebi proposed two options for determining the settlement prices — a blended Volume Weighted Average Price (VWAP) based on trades executed during the last 30 minutes of the continuous trading session (CTS) and the 10-minute CAS, or continuation of the existing CTS VWAP methodology.
The proposals followed feedback received from market participants on the use of the CAS-determined closing price for settling derivative contracts on expiry. Determination of derivative settlement prices based on the closing price arrived at through CAS was among the significant areas of feedback received by SEBI.
“In view of the hyperactivity in expiring index options contracts along with IEP based derivatives trading during CAS, it is proposed to review the existing methodology for determining the settlement price of both index and stock derivatives contracts on the expiry day,” SEBI said. Accordingly, the regulator has proposed two options for determining the settlement price.
Under the first option, called Blended VWAP, the settlement price would be based on transactions executed during the last 30 minutes of the Continuous Trading Session (CTS) and the 10-minute CAS. The contribution of each period would be based on its actual traded value, with no fixed weight assigned to either.
Under the second option, Sebi has proposed continuing with the existing CTS VWAP methodology, under which only trades executed during the last 30 minutes of CTS would be considered.
The regulator said the CTS VWAP could be retained as an interim methodology to provide continuity and allow market participants more time to familiarise themselves with CAS.
The methodology could subsequently transition to the blended VWAP after at least one year, subject to adequate liquidity and participation in CAS and an assessment of its functioning across different market conditions.
CAS was introduced in the equity cash segment for stocks having derivatives contracts from August 3 with the objective of facilitating efficient and transparent price discovery of closing prices. Before CAS, closing prices were determined using the VWAP of trades executed during the last 30 minutes of CTS.
Under CAS, the closing price is determined through an equilibrium price discovery mechanism based on aggregate buy and sell orders in the auction. Derivatives trading, however, continues while the underlying securities undergo the CAS process.
Sebi said this assumes particular significance on expiry days, when derivatives activity can remain significant towards the close and market participants may respond to evolving prices of underlying securities during the auction.
Sebi’s initial review found significant derivatives activity immediately before and around CAS. The regulator said feedback had also highlighted movements in the Indicative Index Value (IIV) and certain index option contracts nearing expiry.
Sebi has proposed discontinuing the display of IIV, while continuing to provide the Indicative Equilibrium Price (IEP) for individual securities. It clarified that IEP is an indicative and evolving value based on orders available in the auction book and does not represent a price at which an actual transaction has taken place. The IIV, which is derived from the evolving IEPs of constituent securities, similarly should not be interpreted as the index actually trading at that level.
The regulator has also sought views on the relative timing and duration of CTS, CAS and derivatives trading, besides certain operational aspects of the auction framework. Sebi has invited comments and suggestions from stakeholders on the proposals till October 3. On September 3, Sebi had said it may propose changes to the methodology following the feedback and indicated that a consultation paper on the proposed framework was likely to be released in about a week.
