What are Periodic Call Stocks?
Periodic call stocks are illiquid securities whose trading is facilitated exclusively through a structured mechanism known as a Periodic Call Auction. This specialized trading method is designed to manage volatility and ensure fair price discovery for shares that typically experience low trading volumes and limited buyer/seller interest.
Understanding Periodic Call Stocks
These stocks are often characterized by their low liquidity, meaning there aren't many active buyers or sellers at any given time. In a continuous trading environment, such illiquid stocks are highly susceptible to significant price manipulation or wild swings with even small trades, potentially harming investors. To counteract this, regulatory bodies implement a Periodic Call Auction system.
The Role of Periodic Call Auctions
A Periodic Call Auction is a specific trading mechanism where orders for illiquid stocks are collected over a predefined time window, rather than being matched continuously. Its primary motive is to restrain volatility present in illiquid stocks. This system was formed by the Securities and Exchange Board of India (SEBI) to address the challenges posed by such securities. According to the National Stock Exchange (NSE), trading in illiquid scrips in the equity market can be conducted only through periodic call auction sessions.
This method ensures that a single, fair equilibrium price is discovered based on all collected orders, at which the maximum number of trades can occur.
Key Characteristics of Periodic Call Auctions
The Periodic Call Auction mechanism operates with distinct features to achieve its objectives:
- Scheduled Sessions: Unlike continuous trading, periodic call auctions occur only during predefined, short time windows throughout the trading day. There might be multiple such sessions daily.
- Order Collection Phase: During this phase, buyers and sellers can submit, modify, or cancel their bids (buy orders) and offers (sell orders). Orders are accumulated without immediate execution.
- Price Discovery: At the culmination of the order collection phase, the system determines a single equilibrium price. This price is where the highest number of shares can be matched and traded, based on the accumulated demand and supply.
- Trade Execution: Once the equilibrium price is established, all eligible orders (those that can be matched at or better than the discovered price) are executed simultaneously at that single price.
- Volatility Mitigation: By pooling orders and determining a single price for all trades within a session, the mechanism significantly reduces the impact of small, isolated trades on price and limits sharp fluctuations, leading to more stable pricing.
- Fairness: It aims to provide a more level playing field for all participants, preventing the large bid-ask spreads and price gaps that are common in continuously traded illiquid assets.
Example Scenario: How Orders Are Matched
Let's illustrate how a simplified Periodic Call Auction might discover a price:
| Price (₹) | Buy Orders (Shares) | Sell Orders (Shares) | Cumulative Buy (Shares) | Cumulative Sell (Shares) | Matched Trades (Shares) |
|---|---|---|---|---|---|
| 105 | 100 | 0 | 100 | 0 | 0 |
| 104 | 200 | 0 | 300 | 0 | 0 |
| 103 | 300 | 50 | 600 | 50 | 550 (at ₹103) |
| 102 | 150 | 100 | 750 | 150 | 600 (at ₹102) |
| 101 | 50 | 200 | 800 | 350 | 450 (at ₹101) |
In this simplified example, at ₹103, there are 600 cumulative buy orders and 50 cumulative sell orders. If the auction price is ₹103, 550 shares can be traded (maximum matches). At ₹102, 750 cumulative buy orders meet 150 cumulative sell orders, allowing 600 shares to be traded. The system selects the price that maximizes the volume traded, which in this case would be ₹102 or ₹103 depending on specific tie-breaking rules, leading to the execution of the highest possible number of shares.
Benefits of This Mechanism
The implementation of Periodic Call Auctions for illiquid stocks provides several crucial benefits:
- Reduced Price Volatility: This is the primary and most significant advantage, as it prevents erratic price movements that can harm investors in low-liquidity scenarios.
- Enhanced Price Discovery: By consolidating all orders within a specific window, the auction helps in determining a more accurate and representative market price for the stock, reflecting the collective supply and demand.
- Increased Liquidity (Relative): While the stocks themselves are illiquid, the auction process concentrates liquidity into specific timeframes, making it easier for investors to buy or sell these shares than in a fragmented, continuous market.
- Protection for Investors: The structured nature of the auction safeguards investors from predatory trading practices or adverse price movements that could exploit the low liquidity of these stocks.
