India's New Closing Auction System Triggers Extreme Market Volatility

The Securities and Exchange Board of India (SEBI) is facing significant market instability following the August 3 launch of a new auction-based system for determining end-of-day prices for over 200 stocks. Designed to align India with global markets, the system has instead triggered extreme volatility and price dislocations, particularly during the first monthly expiry at BSE Ltd. on August 28.

On that day, a bank index put option at BSE Ltd. surged nearly 4,000% before crashing to zero within 15 minutes. The BSE Sensex also plunged nearly 3% during the auction window before recovering to close 0.7% lower. This volatility stems from a mismatch where options continue trading while the cash equities auction is still underway, compressing a full session's risk into a very short window. This effect is further amplified by thin liquidity at the BSE compared to the National Stock Exchange of India Ltd.

The system has also created the widest exchange price gaps in over two decades. Shares of several banks showed significant discrepancies; for example, IndusInd Bank Ltd. closed at 1,002.9 rupees on the NSE but fell to 970 rupees on the BSE. Similar gaps appeared for Federal Bank Ltd., IDFC First Bank Ltd., and AU Small Finance Bank Ltd.

In response to fears of manipulation, SEBI has banned two firms for allegedly placing and canceling outsized orders to influence closing prices: Mansi Share and Stock Broking Ltd. and Copthall Mauritius Investment Ltd., a unit of JPMorgan Chase & Co.