In the auction session, the Exchange invites offers from fresh sellers for quantities short delivered (10 shares of Titan in the below example)


Example:

Exchange ensures that if you buy shares, you get credit for the shares. Now, assume Client A bought 10 shares of Titan from Client B and Client B doesn’t authorize these shares on CDSL, then the Exchange will treat this as an ‘Short Delivery’ on T+2. 

Now what happens is that the Exchange conducts an Auction and buys these shares for Client A in the Auction market and gives delivery of these shares to Client A on T+3 instead of T+2.

Note: In the case of physical settlement of derivatives, if the seller defaults on the delivery, the exchange conducts an auction on T+3 days. In such a case, the settlement time will be T+4 days.

  • When does the auction happen and who can participate in the auction market?

It is a special market where only members of the Exchange can participate as fresh sellers and sell shares which are short delivered. The auction market is conducted every day between 2:00 PM and 2:45 PM. To ensure that there is no conflict of interest, the Exchange doesn’t allow the member whose client has defaulted in delivering to take part in the auction market.

  •  At what price are the shares sold?

There is no fixed price for the auction to happen. The Exchange specifies a range within which the auction participants can offer to sell their shares.


Upper cap of the range: 20% higher than the price that it closed on the previous day of the auction (T+2 day of trade). For example, if you sell a stock on Monday, the auction happens on Wednesday with the closing price of Tuesday used to determine the auction price.


Lower cap of the range: 20% lower than the price that it closed on the previous day of the auction. For example, if you sell a stock on Monday, the auction happens on Wednesday with the closing price of Tuesday used to determine the auction price.

  • Exchange penalty for stocks in Auction

    • So in the Titan example above, a fresh seller can offer to sell 10 shares of Titan in the auction market in the range of ₹800 (assuming Titan closed at ₹1000 the next day; 20% below 1000) to.₹1200 (20% above 1000).

    • Assume that Client A bought 100 shares of Titan from Client B at.₹960 and Client B defaulted in giving the shares.

    • In the auction market suppose the fresh seller is offering to sell 10 shares at ₹1120 only.

    • The Exchange is obligated to buy it at whatever price and give delivery of these shares to Client A. The Exchange would hence buy these shares at Rs.1120/- and give the shares. Since Client. B has defaulted he would have to pay the difference of  ₹(1120-960)*10 = ₹1600/- to the exchange. Along with this, the Exchange also charges an additional penalty of 0.05% of the value of stock per day that Client B failed to deliver. The sum of both the above together is called ‘Auction Penalty’.

Hence, it is very important that you authorize the sell transaction of a stock on CDSL before the stipulated time or you could end up paying a considerable amount of money as ‘Auction Penalty’.


Note: Same is applicable for T+1 settlement.