As per the settlement cycle followed in India, funds and securities of executed trades are to be delivered by the broker to the exchange on the T+1st day (one working day from the transaction day). This is known as the pay-in process.
If a client has sold the required shares (under BTST) or does not have them in his demat holdings, the broker will not be able to fulfil their pay-in obligations to the exchange on time. This failure to deliver shares is termed aShort Delivery. As a consequence, the buyer in this transaction will not receive his due shares and the exchange puts these undelivered shares up forAuctionon the T+1st day (so as to deliver them to the buyer).
Auction Timing:Auctions are conducted daily from 2:00 to 2:45 p.m. During this session, traders holding the concerned share can put them on offer. To avoid any conflicts the exchange doesn’t allow the broker whose client has defaulted (short delivered) to take part in the auction.
Auction Price:The auction price is taken as the lowest sale price offered during the session, where it is allowed to range between 20% higher and 20% lower than the closing price on the previous day (T) i.e., the day before the auction.
If the auction is successful and the broker is able to buy the required shares, the defaulting seller will be charged the higher of the valuation debit OR the final auction price. He/she will also be subject to applicable brokerage and penalty charges. The shares will be delivered to the original buyer by the T+2nd day.
Valuation Price:Before the auction, the exchange will block a certain amount in the broker's account against the defaulted trade. This is determined based on the closing price of the concerned share on the day preceding the auction i.e., T. The amount blocked per share is known as the Valuation Price.
Valuation Debit:The total amount blocked by the exchange in the broker's account against the defaulted trade is termed the Valuation Debit (No. of Shares x Valuation Price)
Close-out:In case the broker is not able to buy the required shares during the auction, it results in a close-out settlement. This requires that the trade is cash-settled as per the close-out price. The close-out price of a share varies according to its trading category. Here, the buyer will receive this payment (instead of the due shares) and the defaulting seller will be charged the same.
Therefore in both situations (auction or close-out), losses and costs are borne by the defaulting party.
For example, Mr Abhiraj short sells 10 shares of Titan Ltd at Rs. 2,000 per share on Monday (T) as an intraday position and fails to close it.
- Geojit is expected to deliver these shares to the exchange on the pay-in day for the trade i.e., Tuesday (T+1), but will not be able to do so due to Mr Abhiraj's delivery default.
- As a result, the exchange will block a certain amount of money in Geojit's account, a.k.a., the Valuation Debit. This amount is determined based on the closing price of the share on Monday (T)- let us take the closing price on Monday to be Rs. 2,100 a.k.a., the Valuation Price.
- With a Valuation Price of Rs. 2100 per share, the Valuation Debit is Rs. 21,000 (2,100 x 10 shares).
- On Tuesday the exchange will conduct an auction to purchase shares so as to deliver them to the actual buyer. The auction price will be allowed to range between Rs. 1,680 and Rs. 2,520 (20% lower and higher than Rs. 2,100).
The possible scenarios are as follows:
Scenario 1-The stock is auctioned at a price higher than the valuation price
If the stock is bought back at Rs. 2,200, an additional amount of Rs 100 per share will be blocked in Geojit's account by the exchange. (100 is the difference between the auction purchase price of Rs. 2,200 and valuation price of Rs. 2,100).
This will have to be borne by Mr Abhiraj.
The shares purchased through the auction will be delivered to the buyer by T+2 (Wednesday).
Scenario 2-The stock is auctioned at a price lower than the valuation price
If the stock is bought back at Rs. 1,900, the difference of Rs. 200 per share is transferred to the Investor Protection Fund (IPF). (200 is the difference between the auction purchase price of Rs. 1,900 and valuation price of Rs. 2,100).
This is because the price charged to the defaulting client will be the higher of the valuation price (Rs. 2,100) and the price at which the stock has been bought in the auction (Rs. 1,900).
The shares purchased through the auction are delivered to the buyer by T+2 (Wednesday).
Scenario 3- There are no sellers in the auction market
The exchange conducts a Close-out settlement based on the trading category of the concerned share. This results in the trade being cash-settled, wherein the buyer receives a payment (instead of the due shares) and the defaulting seller will be charged for the same.
Learn more about theclose-out procedure.
Scenario 4- Short delivery of shares falling under the T2T (Trade-to-Trade) segment
They are directly cash-settled. The settlement price, subject to periodic changes, is the higher of:
- The highest price between T (Monday) and T+1 (Tuesday), or
- 20% above the closing price on T (Monday).
Scenario 5- Internal Settlement
When both the buyer and seller are clients of the same broker, the trade is settled based on the broker'sinternal shortage settlement procedure.
* In the case of physical settlement of derivatives, the exchange conducts an auction on T+3 if the seller defaults on delivery. In this case, final settlement will be on T+4.* We do not allow clients to participate in auction sessions.* Visit the NSE website to learn more.