The closing auction is accounting for an increasing portion of the daily trading volumes in South Africa, a story Europe is only too aware of, being just a few chapters ahead.
Speaking on a microstructure panel at the Johannesburg Stock Exchange (JSE) South Africa (SA) Trade Connect 2023 conference panellists from across the buy and sell-side agreed that the event is now the most crucial of the day, with those on the sell-side claiming that when an event happens, clients’ first concern is how it will impact the auction.
Running the show
Much like in Europe, the closing auction’s imprint is now being felt elsewhere throughout the day, drying up liquidity in the continuous markets and sparking volatility in the first hour of the day that makes clients reluctant to trade.
“The idea of the auction has changed, very few people care about the opening auction,” said ABSA CIB’s head of equity trading, Rufaro Mapanda. “The discussion is now around how much is going to be in the auction. It’s creating friction trying to forecast what a stock is going to do.”
“Fundamental news will come in at 3 o’clock and the first thing clients want to know is the impact on the auction. The auction is driven by volume changes based on the news and then the next day the stock settles to where it should be following the news.”
South African markets have previously toyed with the idea of opening earlier to ensure they don’t miss the opening of other markets including the UK and Europe, but thanks to the growth of the Close this is no longer relevant.
“Opening hours are irrelevant. We’ve moved so far away from that because the focus is on the close, which is artificially created,” added Mapanda.
This trend is not unique to South Africa and is now most exaggerated in the European markets; where 30% of the day’s volume now goes through the close. The US and Asian markets have seen some growth but not to the same extent – although, as pointed out by BMLL’s chief product officer Dr Elliot Banks, the NYSE Closing Auction remains the global markets’ biggest equities event.
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“With less liquidity in the continuous lit markets, the amount of price formation is reduced and participants therefore need to trade more in the auction,” said Adam Bunkell, head of equity markets at Saniam Private Wealth.
“But flow that is looking to access that closing price is not agnostic, if a benchmark is being affected by the Auction the passive flows don’t want to trade at the wrong price. Data shows prices remedy very quickly in the markets that trade after the Close. The challenge for order owners is how do you insert that order without ensuring your price impact is minimised.”
Data is essential
Panellists from across the buy and sell-side, as well as data vendors, were unanimous in the need for data as a means to help institutional investors understand and navigate the Close.
“The most essential information is when price formation happens. Participants initially are just chucking orders in. Last year Carrefour was priced at 49 levels during one Auction. When does the price formation actually kick in and how do you know which the best price is?,” added Banks.
“Learning more about the price discovery process in this period is essential for traders. They also need data on other trading mechanisms as well. It’s worth stepping back and looking at other auctions such as periodics.”
Other key data sets noted by panellists were the differing publishing rules of different primaries in order to decide upon which Closing Auction to use and the levels of addressable liquidity, something European regulators are trying to get under control.
“If you reference the Auction, you might as well reference the benchmark and that benchmark relies on the integrity of data,” said Alphonso Raats, head of equity and derivative trading at Stanlib.
“You need to unpack the dynamics of the Auction and to define best execution. But if you give everyone the same weapons not everyone is going to win the war.”