AUTO is typically used on newer transponders that comply with the Mode S EHS (Enhanced Surveillance) specification. On the aircraft that I fly, the transponder will automatically switch between flight mode (emitting a squitter every second, unsolicited) and ground mode (responding to specifically addressed inquiries only) when it is in the AUTO position.
I don't think the TSO for transponders specifies exactly what AUTO should do, or even if the transponder must/should have an AUTO mode, so it would be best if you carefully checked the documentation for the specific aircraft you are flying.