However, restrictions around systematic internalisers (SIs) trading at midpoint, the double volume cap (DVC) and the reference price waiver (RPW) were not discussed, sources familiar with the discussion told The TRADE. It suggests a potential change of heart towards the transparency regime in Europe or that those in discussions have become more focused on the other, more political subject matters.

“Without Trilogue we don’t know where the debate [around transparency] will end,” said one source. “The bandwidth for now has been eaten by other topics, so it is difficult to predict the final outcome.”

Compromise

Those topics eating up the bandwidth of legislators are payment for order flow (PFOF) and the consolidated tape (CT), with both becoming increasingly politicised.

The practice of payment for order flow is perhaps one of the most divisive topics being discussed as part of the Trilogue process with drastically opposing views that range from an outright ban to a discretional member state by member state approach being proposed by various parties. With such opposing views, one party will likely have to compromise.

According to sources familiar with the matter, the most recent discussions that took place on Monday suggest a regional ban is now back on the table but with additional controls overlaid on top as a middle ground between the two viewpoints.

“It’s a pragmatic approach given the two sides cannot reach an agreement,” said the source. “But it would be a strong stumbling block to the European Union and the Capital Markets Union. If we proceed with this, where is the single market? This pragmatism may set a bad precedent. If this is accepted by institutions this could be done for any topic.”

As Mifid currently stands in Europe, the practice of paying for order flow is banned in some member states and allowed in others, similar to the rule change proposed on Monday.

“If you want to maintain the status quo, why make the amendments?” one source said.

Consolidated tape

Elsewhere discussions around the consolidated tape appear to have come to a standstill, according to those familiar with Monday’s discussions, with no agreement reached at this stage.

With no agreement reached, the European Commission has been tasked with drafting an additional proposal aimed at bridging the gap between the European Parliament and the European Council, The TRADE understands.

Opposing parties are arguing over the inclusion of pre-trade data in a consolidated tape for equities.

Those for the inclusion suggest it would lower the cost of data for participants and that a tape is not commercially viable without it. Those against suggest the tape would not be fit for purpose if pre-trade data is included as it could leave investors – both institutional and retail – subject to latency-based arbitrage strategies.

In a joint industry letter published by the European Fund and Asset Management Association, asset managers including JP Morgan AM, UBS and Vanguard, emphasised the importance of pre-trade data with fair prices for a consolidated tape and warned against the potential impacts a change of heart from regulators on pre-trade data could have.

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After several years of back and forth following the UK’s departure from the European Union, it appears regulatory discussions around Mifid II amendments in the UK and Europe are reaching a turning point. 

Recent announcements on either side of the channel signify huge milestones, some of which pre-date Brexit all together. Not least among these are plans to implement a consolidated tape – something participants have spent decades lobbying for. 

February was an exciting month from a regulatory perspective. In the space of one week, the markets saw two major decisions in the UK and Europe. First, was the European Parliament’s Economic and Monetary Affairs Committee (ECON) vote in favour of MEP Danuta Hübner’s draft report on Mifid II by a landslide majority.

Originally drafted in July 2022, the report outlines amendments to the regulatory framework around the controversial practice of payment for order flow (PFOF), dark pool caps, and what form the much-coveted consolidated tape should take in Europe. 

“I have worked on this text for over a year and following months of intense but very cooperative and positive negotiations amongst the political groups, we have achieved a compromise that reflects the level of ambition that the EU capital market needs,” said Hübner in a statement at the time of the announcement.

Moving forwards

The first European Council Working Group under the Swedish Presidency convened on 31 March, and in the same week that TradeTech took place in Paris, Brussels saw the European Council, Commission and Parliament enter Trilogue discussions on 18 April. 

“It’s fair to say that there will probably be three key topics up for discussion and negotiation: the consolidated tape (for equities more so than for fixed income), payment for order flow (PFOF), and the framework for systematic internalisers,” confirmed Nicolas Rivard, head of advanced data services at Euronext, speaking to The TRADE. 

“And to be honest, it is the first of these that is likely to be the most debated – it has been a fairly tense discussion so far and it’s fair to say that there there is still room for improvement in the text when it comes to transparency, and in order to improve fragmentation and competition.”

A consolidated tape

The most recent proposal in Europe suggests a real-time pre- and post-trade consolidated tape per asset class. The model will reimburse all data contributors as opposed to incumbent exchanges and also places greater emphasis on data quality.

However, caution should be exercised before anyone gets their hopes up. While the vote finalised the European Parliament’s negotiating position and pushed the review process through to its final stages in Trilogue after over a year of back and forth, it still needs to be debated in parliament. Meaning the final result – expected to be announced by early next year with rules implemented in the next 24 months – could be systemically different to the current text. 

“The initial proposal from the Commission has been considerably changed,” agreed Rivard. “It looks now as if it will be very close to real-time, which will give market participants a much more integrated view. It will be a very live tool, which will be helpful – for example, it will allow for instant monitoring of best execution – and we also think that it will be a profitable exercise for the provider of the tape, it will cover its own costs.” 

The suggestions put forward by MEPs as amendments to the Hübner report in Q3 of last year range from real-time to a one minute or 15-minute delay on data, while others champion a post-trade tape only. Realistically, participants should ready themselves for some degree of compromise. Oh, to be a fly on the wall for those discussions.

“While work remains until a final framework is agreed, the amendments proposed by the European Parliament and European Council represent significant improvements on the initial text,” said Cboe Europe in a statement at the time of the vote. 

The second of the milestones achieved in February was an announcement on 2 March from the UK’s Financial Conduct Authority (FCA) revealed by The TRADE confirming that the UK was ditching plans for multiple tape providers in favour of a single consolidated tape model. The announcement followed the Edinburgh reforms at the end of last year that promised to deliver an environment that supports a consolidated tape by 2024.

“After listening to representations on this issue and considering our competition duty, we believe a model of a single provider chosen by tender for a specified duration could offer an effective approach to dealing with the practical delivery of a tape for bonds as well as offering some of the benefits of competition through competition for the market,” said the FCA’s Stephen Hanks in his note to participants and trade associations.

“Having a single provider will need to be coupled with suitable measures to mitigate the lack of competition between authorised consolidators and these will be part of the design considerations that we will be asking for feedback on.”

Concerns also remain – with regards to both proposals – as to how the accountability for accurate data will be handled. Who will have responsibility for ensuring that the data submitted to the tape is correct – and who will clean, process and challenge incorrect data? Will this be the responsibility of the venues themselves, or of the tape provider? Market participants agree that this is a key issue, and one that needs to have a clear process laid out in terms of process and protocols in order to ensure confidence in the end-result – without which, the tape would be meaningless. 

“In the end, the CTP is not responsible for the data which is provided by the contributors,” warned Rivard. “So there needs to be a feedback loop, or a virtuous circle, established from the start and enshrined in its development in order to counteract any challenges on data quality. Because if the data quality is poor, the venture will be a failure.”

As it stands, the tape has evolved to become an area of convergence for regulators in the UK and Europe – but hang on to your hats, because the ride isn’t over yet.

Where to converge?

The approach to regulation favoured by the UK and Europe does overall seem more collaborative as of late than in those first frosty months following Brexit.

This can perhaps most clearly be seen through the consistent approach towards PFOF from both regions. The UK effectively banned the practice a few years ago, while European regulators have been toying with some level of ban for well over a year now. Despite the draft regulation proposed by the Czechs in December including a restriction on PFOF, leaving it at the “discretion” of Member States to allow the practice in their territory should they wish, the text approved for Trilogue includes a complete ban across the EU. The Council has included the option for exceptions by individual member states, who can decide to opt out on behalf of their own domiciled investors, should they wish – although The TradeTech Daily understands that the Parliament and Commission have not yet accommodated that option, which will be further discussed in Trilogue.

A consistent, region-wide approach would come as a relief to the many that argue Europe is fragmented enough without region-by-region regulation to navigate. But the outcome is by no means certain. 

“It’s going to be a debate. We know that for sure,” revealed Rivard. “To be honest, there were a number of late amendments by deputies to challenge the ban.” 

One stone left unturned by the most recent text, however, is the concept of single venue market makers.

“Whilst a comprehensive EU wide ban on PFOF does help create a needed level playing field, opening up single market maker venues to competition is still needed to help brokers achieve the best possible price for retail orders,” Optiver’s public affairs manager, Tarek Tranberg, told The TRADE. “Without that step, banning PFOF may only be a wealth transfer from brokers to single venue market makers.”

Dark trading 

While regulators on either side of the channel would appear to be converging on PFOF, there remain a few key areas where both regions appear to be pulling in different directions following Brexit. Namely, the level of transparency in the markets when trading and how large a portion of volumes should be forced to take place on the lit markets. 

Participants were quick to voice their wariness and disappointment over the potential limitations or “simplification” of the double volume cap (DVC) mechanism approved in February – in particular the potential creation of a minimum order size for the reference price waiver to restrict midpoint trading and to push smaller trades back onto the lit markets.

The Trilogue is expected to review the question of midpoint trading – particularly with regards to systematic internalisers (SIs) and how they are treated. “This is probably a slightly less controversial topic than consoldiated tape and PFOF, but it’s still a big deal,” says Rivard. 

“The initial text of the Commission basically prevented midpoint trading for smaller orders,” he explained. “The Council approach is very different, it basically makes trading at midpoint possible, while the Parliament text is in the middle. By definition, this can’t take place on a lit market, so from our perspective there is certainly an argument to have some sort of definition and/or limitation to ensure a level playing field.”

Numerous proposals have been put forward, from the original Hübner report ranging from a 10% DVC suggested by the most recently Czech-led Council, to a 7% DVC suggested by Parliament. The recent February vote in favour of the Hübner report suggests the power should be with ESMA to define what the right minimum threshold should be in the dark and on SIs, suggesting a more evidenced-based approach to setting Mifir regulation.

In a statement following the vote, Cboe Europe said it “remains concerned that any such minimum size is likely to prove damaging to EU liquidity and to the competitiveness of EU investment firms, and undermine execution quality for investors, but cautiously welcomes that ESMA is mandated to consider these factors and rely on empirical evidence to support any such recommendation.”

In a bid to foster new interest in its markets following the loss of share trading post-Brexit, the UK has taken a contrasting stance, instead favouring an outright removal of the DVCs and no restrictions on systematic internalisers as part of its Wholesale Markets Review (WMR).

There remain some unavoidable areas of divergence – for example, it’s now almost a guarantee that no equivalence decision will be reached on the share trading obligation (STO). Further afield in the world of post-trade, Europe is now intent on reclaiming a chunk of clearing as seen by the lack of permanent equivalence awarded to UK-based CCPs, and its announcement in December that relevant participants will be required to hold active accounts at European CCPs for clearing at least a portion of certain derivative contracts. With regards to dark trading, the markets will have to wait and see what comes out of Trilogue but whatever the result, it won’t mirror the UK’s removal of DVCs.

Where next?

It’s not all doom and gloom. A pre- and post-trade tape could well be on its way and while continued restrictions on dark trading are likely in Europe, they may not be as rigid as was first thought in 2021. The approach to Mifid II in the UK and Europe overall is heading in a more collaborative direction that it was in the months that followed the Brexit bell and the exodus of share trading seen by the UK following the lack of equivalence. 

Now that Trilogue is underway, we could realistically expect to see results published by summer, followed by publication of the final text, with application potentially as early as the 2024. 

It might not be perfect, but it’s progress.

The post Mifid post-Brexit: The current state of play appeared first on The TRADE.

A collection of Europe’s most influential trade associations have issued an open letter outlining their thoughts on the ongoing Mifir review, warning that in its current form the regulation could result in a loss of competitiveness for Europe against third parties including the UK.

“With international competition for investment heating up markedly, European legislators need to ensure that EU regulation is helping, and not hindering, capital market growth and participation.”  

“With international competition for investment heating up markedly, European legislators need to ensure that EU regulation is helping, and not hindering, capital market growth and participation.”  

Consolidated tape 

The associations support an “appropriately constructed” consolidated tape (CT), with the aim of democratising access across European markets for a comprehensive and standardised view of European trading. However, the letter warns that “it is impossible at this time” to predict the pricing of the tape, the quality of the data and the speed of delivery, meaning that its use should not be mandatory. It should also be competitively priced, with the associations arguing that the bond tape in particular should be priced on a cost recovery plus reasonable margin basis, stressing that “any additional language around loss of revenue for the bond CT is profoundly misguided and could be open to abuse”.  

Market data costs 

However, the associations’ members do not believe that a CT is the solution to the issue of rising market data costs, claiming that the requirement for proprietary data is “indispensable” in order for market participants to operate – and to comply with regulatory requirements – meaning that there should be no exemptions for CTs.  

“The challenge with high and increasing market data costs must be addressed head-on, including through strengthening of the Mifid II and Mifir requirements, standardisation of pricelists, policies, audit procedures, etc., regardless of the existence of a CT,” argues the letter.  

Volume caps  

The associations also note that some of the existing proposals could constrain the activity of systematic internalisers (SIs), which they believe play a key role as liquidity providers, and any restriction of their activities could be to the detriment of Europe’s competitiveness on a global scale. 

Specifically, the letter highlights concerns around the limitation of SIs ability to trade below certain thresholds or to trade at mid-spread, and of a potential integration of their volumes in the monitoring of the double volume cap (VC). Other proposals could restrict the access to waivers of pre-trade transparency through the lowering of the double volume cap or other limitations on the use of the reference price waiver (RPW) and the negotiated trade waiver (NTW) in the equity space. 

“While these proposals initially aim at increasing transparency and consolidating the price formation process in the EU, we consider that, were they to be adopted, they are most likely to run counter to these objectives and to weaken the attractiveness of EU markets,” said the letter.  

“Alternative venues of execution (dark MTFs and systematic internalisers) provide liquidity services that are critical for end investors and that cannot be substituted by the sole access to lit multilateral venues. As a consequence, the limitation of their activity would be detrimental to investors.”  

It warned that non-EU market participants – that represent a significant portion of trading in EU shares – would as a result be likely encourage the emergence of alternative pools of liquidity in more competitive jurisdictions, such as the UK, in order to offer better execution outcomes to their clients: which could result in a transfer of liquidity from the EU to other markets and a consequent weakening of price formation.  

“Our view is that a removal/suspension of the VC as in the UK would be the preferred option in order to create the needed level playing towards the UK,” it stressed.  

Non-equity transparency 

The associations highlight the unique nature of the bonds and derivatives market, stressing the importance of allowing market makers to hedge their risks as well as to unwind their positions.  

As such, the letter supports the removal of the pre-trade transparency requirement for request-for-quote (RFQ) and voice systems, as suggested in the latest proposal draft. “These mechanisms do not bring any clear value, while increasing the operational complexity for market participants,” said the letter.  

“It is critical that the EU proposal, everything else being equal, does not result in dealers preferring to provide liquidity at a better price in the UK/other third country markets.” 

Other issues 

The associations believe that PFOF should be allowed as long as measures are taken to address transparency, conflicts of interests and best execution issues, and support the decision to repeal the RTS 27 element on best execution reports.  

However, they strongly urge against the proposal to add AIFM/UCITS firms to the scope of entities obliged to report their transactions. “We consider this would have huge detrimental impact on the current regime of the reporting mechanism for investment firms,” said the letter.  

A draft report on the Mifir update is expected from the European Parliament by the end of the month.  

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Earlier this summer, senior EU lawmaker and MEP Danuta Hübner laid out new details recommending further MiFIR amendments in a draft report for the European Parliament – and its firm stance has had the effect of polarising an already concerned industry.

Did the report contain what you expected?  

While many amendments were widely anticipated, we fear that others might not bring the transparency and wider market efficiency they were designed for. 

“While many amendments were widely anticipated, we fear that others might not bring the transparency and wider market efficiency they were designed for.” 

One particular amendment that has caught the attention of some market participants is the exemption rules for the consolidated tape. Widely seen as the central feature of a package of capital markets reforms designed to bring more transparency to the European Union’s fragmented trading landscape, the consolidated tape, to be credible and efficient, needs to be as comprehensive and representative of the EU trading landscape as possible. 

Why was the report’s treatment of CT a concern?  
One of the more surprising proposed amendments coming out of this draft was the proposed exemption of markets that do not contribute significantly to the fragmentation of EU markets from mandatory contribution of prices to the tape. More specifically, the report has introduced the possibility of being exempted from mandatory contributions for markets that represent less than 1% of the total EU average daily trading volume, or do not contribute significantly to the fragmentation of EU markets. It also includes an opt-in option to the mandatory contribution scheme for those exemptible regulated markets (a higher share of the CT revenues should be re-allocated to them). In theory, the idea seems to be to exempt smaller regulated markets of lesser significance at an EU scale, which is, perhaps, a necessary and fair exemption, but in practice, the field of exemption appears to be much broader than that.  

For example, the proposed amendment stipulates that a regulated market whose share exceeds 1% of EU average daily trading volume (ADTV) may also be exempt from contribution if it is the primary listing venue for shares and does more than 70% of ADTV on shares concerned or, if less than 20% of the volumes of these are traded on other venues such as Multilateral Trading Facility or Systematic Internalisers. In other words, if you are an exchange regardless of size, and you have over 70% of the trading volume in a share that you listed, then you won’t have to contribute to the tape. This exemption could be an open door for certain exchanges that are doing significant volumes to be exempted from contributing to the tape.  

What would you like to see instead?  

For the consolidated tape to be up to the EU and end-users’ expectations and needs, the full participation of all exchanges is absolutely critical and must be clearly outlined in the regulation. Otherwise, users of the tape will not have the full picture unless they subscribe additionally to the data feeds of omitted markets. 

This approach to building a consolidated tape would negatively impact its relevance as it would not provide an actual ‘consolidated’ view of the market data. Ultimately, it could undermine end-user confidence in the tape and, by association, any ambitions to build a competitive capital market union. 

What other elements caught your eye?  

Another item worth our industry’s attention in the draft report is the recommended suspension of the double volume cap for five years under the rationale that current limits on the amount of trading that can take place without pre-trade transparency are arbitrary and that other measures are better placed to strengthen lit venues, including increased thresholds for the use of the Reference Price Waiver or higher Systematic Internalisers quoting obligation. This is in contrast to the Commission’s more pragmatic proposal which seeks to reduce the double volume cap to a simplified single volume cap (7%) at the overall Union level. The Commission’s proposal eliminates the current complexity of maintaining both an individual venue cap and an EU-wide cap but retains the aim to limit the level of dark trading in an instrument.  

During the proposed five-year suspension, the report outlines that ESMA will continue to monitor the level of dark trading and be empowered to limit it by restricting the use of the reference price and negotiated trade waivers, if there is evidence that the volume of such trading is undermining the efficiency of the price formation process.

“For the EU to be consistent with its campaign for greater market transparency, it is critical that rules and policies are not motivated by fear of what other authorities are doing.” 

But for the EU to be consistent with its campaign for greater market transparency, it is critical that rules and policies are not motivated by fear of what other authorities are doing, for example the UK. There seems to be some sort of apprehension that when the UK does away with the double volume cap, then we could see significant volumes in European names being executed in dark pools by third country firms. If the EU believes in transparency as a driver of more positive outcomes, then structuring the market accordingly is going to lead to more volumes being attracted to European markets. Doing otherwise and trying to align to third countries with a different approach to transparency is only going to lead to a ‘race to the bottom’, which ultimately won’t benefit investors.  

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“Europe needs effective, understandable and deliverable changes to the current framework.”

“The current SIs regime is complex and unclear.”

“The new amendment minimises supervisory divergence and bans the payment for order flows across the Union.”

Dark pool caps scrapped
The report also recommends removing the dark pool limitations brought in under Mifid II, in a move that could see the EU move to compete with the UK for dark trading volumes. “These caps were set arbitrarily and proved to be of limited utility, and their removal would reduce complexity and align the Union with international practices,” said Hübner. 

Currently the Union has far lower dark pool allowances than the UK, which has sought to reinvent itself post-Brexit as an attractive destination for dark trading, while the EU has prioritised transparency within lit markets.

Convergence over divergence
Banning PFOF and scrapping dark pool caps would, notably, bring the EU closer to the UK in two key areas of regulatory focus – a rare example of convergence (for a change), compared to divergence.

“It’s positive to see a more pragmatic response to the EU Commission’s proposals, which could see Europe row back from some of the more restrictive measures tabled in November.”

“It’s positive to see a more pragmatic response to the EU Commission’s proposals, which could see Europe row back from some of the more restrictive measures tabled in November and ultimately lead to less regulatory divergence between the two markets,” commented James Baugh, head of European market structure at Cowen, speaking to The TRADE.

“I also see support for a real-time pre-trade tape as big step in the right direction. That said, PFOF remains an area of uncertainty and with Germany still pushing back on an outright ban, this will have to run its course.”

Nuts and bolts
The report contains a number of other amendments, including:

 – Reinstating the exemption for non-financial entities (NFEs) who execute transactions on trading venues.
 – Subjecting investment firms (in addition to trading venues) to data quality standards when submitting market data.
 – Requiring all market operators (and investment firms operating an MTF or an OTF) to obtain an ISO legal entity identifier (LEI) for all traded securities, in order to ensure an even playing field between EU and non-EU issuers. 
 – Confirming the removal of RTS27 and 28 with regards to reporting obligations. 
 – Adding a requirement for giving at least two “materially active” liquidity providers the opportunity to interact with independent order flow with regard to price formation.
 – Allowing, for third country shares, the use of the prevailing tick size on the main exchange, in order to boost competitiveness. 

The post Cat among the pigeons? New report outlines the latest Mifid II amendments appeared first on The TRADE.

 Fixed income data spend for sell-side institutions has increased by half in the last five years according to a recent report by AFME, with market data spend more generally rising by a quarter. Spend on data on exchanges has also risen by 42% since 2017. These costs are all felt keenly across the street.

 Data today is more essential than it has ever been for trading and as the market evolves it is set to play an ever bigger role in how institutions operate. New reporting and research requirements brought in under Mifid II have increased the quantity and the complexity of data required to execute, while fragmented markets mean participants are often forced to use several sources, all at a cost. This has been exacerbated by the growing need for data to comply with environmental, social and governance (ESG) regulations and to offer dual services in the UK and Europe post-Brexit.

 “Data fees are increasing along with the granularity, depth and the speed of the information that the trading venues provide because that’s more valuable to participants,” said Hayley McDowell, European equity electronic sales trader and market structure consultant at RBC Capital Markets. “It’s no secret that commissions are declining and profit margins are being squeezed across the board, so the cost of doing business is increasingly under the spotlight.” 

 AFME’s report suggests that soaring data expenses have been driven by a 35% increase on the existing cost base and a 15% increase on new incremental data usage. For the fixed income markets, automation and the expansion of instruments available have added to this increase. 

 “We are a buy-side company focused on quantitative, systematic strategies, so data has a particular importance for us,” said Tobias Stein, managing director and head of portfolio implementation at Quoniam Asset Management. “In fixed income, we have a growing universe in terms of assets which results in higher data costs. As a quantitative asset manager, we are in a position to systematically explore these larger universes but this is obviously a driver of additional costs.”

 In light of growing data costs, many buy- and sell-side institutions are becoming increasingly disgruntled over the fact that venues and the vendors that aggregate their data do not have to put up any risk for the transactions that they are subsequently profiting from, instead simply repackaging and then selling that data at a high price.

Mifid II

The greatest fixed income cost increase recorded by the sell-side in AFME’s report was for reference and price data, which has increased by a third in the last five years driven by data demand, changes to vendor licensing agreements and Mifid II obligations. 

 While Mifid II was designed to reduce data costs, the case can be made that it has done the opposite, particularly in the fixed income markets. The regulation brought with it swathes of new requirements and data complexities for firms to adhere to, including and pre- and post-trade reporting requirements to ensure best execution, which have impacted the buy-side heavily. 

 Under Mifid II, there are 15 Approved Publication Arrangement (APA) facilities appointed in Europe to manage and publish firms’ reporting data, while MTFs retain responsibility for trades executed on their platforms. However as AFME’s report highlights, not all APA data is available via all data vendors, meaning firms often have to enrich this data by purchasing it from multiple other sources, thereby duplicating costs. In addition, these sources are seldom standardised, meaning significant additional work can be required before the data is of any value. 

 “Another driver [of costs] was the change in policy including external research etc.,” added Stein. “I think cost focus in terms of the consequences of regulation, especially for the buy-side, is something which would be key in our perspective for future regulatory changes.”

Supply and demand 

Data is now the lifeblood for all markets and those who supply it are only too aware of its importance. Across the markets, the venues that host order flow hold a monopoly over pricing and depth of book data, which institutional investors cannot live without. Institutions can find themselves on the back foot if they are only accessing data on a secondary basis as opposed to straight from the source, and because there are a lack of alternatives, it will never be as competitive as it should be and venues will always hold negotiating power.

 “The most relevant data originates from the venues because that’s where the inventories are, that’s where the RFQs are flying back and forth and that’s where the trades are happening. That obviously puts them in a good position when it comes to data quality and potentially also charging for that data quality,” said Mikael Björkman, head of fixed income execution and OTC structured products at Credit Suisse.

 The lack of competition in the market in terms of execution platforms and exchanges providing market data across asset classes is something that regulators globally have begun to assess. The UK’s Financial Conduct Authority (FCA) is currently underway with a year-long investigation examining if a lack of competition is driving trading costs up. Regulatory requirements for benchmarking a trade with an independent source, indices and credit ratings have also driven up costs for market data and this is another area the FCA has chosen to examine, exploring whether high costs could be limiting the number of new entrants in the market.

 In a bid to alleviate cost concerns from participants around market data provided by exchanges in the US, regulators last year proposed to increase the level of data publicly available via real-time consolidated data feeds for US equities – otherwise known as SIPs – to include depth of book data that has historically been exclusively provided by exchanges. The move landed the Securities and Exchanges Commission (SEC) in a lawsuit after incumbent exchanges Nasdaq, the New York Stock Exchange (NYSE) and Cboe went so far as to take the watchdog to court in February over the proposed extension. Legal proceedings are still underway.

 “More competition would certainly help address the monopoly venues have,” said one individual, who wished to remain anonymous. “However, this is easier said than done. In the fixed income markets three incumbent trading platforms are responsible for a large amount of flow and a new contender would probably struggle to make inroads.”

 AFME’s report references three unnamed MTFs in fixed income, all of which have seen more than a 50% increase on spend on their pricing data. We all know who we’re referring to here.

Price transparency

As exchanges and venues hold a monopoly over the data that is accumulated on their platforms, they also control the way that their products are priced and how much transparency they want to disclose around how they reach that figure. In listed securities markets, where participants rely more heavily on exchanges, this is more prevalent. 

 “The data we receive is often raw so we have to work on it once we receive it. Technology and manpower are needed to analyse it and make it usable,” said one anonymous individual. “Data products are also bundled with other products so it’s difficult for market participants to know exactly how they are being priced.”

 What’s more, technology has advanced so significantly in the last five-year period that participants are finding it difficult to understand how rising market data costs can be justified by exchanges and venues who claim that their costs are also going up.

 “It seems that the market data fees have increased while costs for exchanges may have declined – for example, the likely cost of dissemination due to improvements in technology in recent years,” explained McDowell. “Market data is not regulated and the fees for it are often bespoke according to different clients.”

 The recently-launched Members Exchange (MEMX) moved to introduce blanket fees for its real-time equities market data in February this year, in a bid to offer a “significantly less expensive” service in comparison with other exchanges. Founded in 2019 by BofA Securities, Charles Schwab Corporation, Citadel Securities, E-Trade, Fidelity Investments, Morgan Stanley, TD Ameritrade, UBS and Virtu Financial, MEMX is designed as a contender to incumbent exchanges NYSE, Nasdaq and Cboe. The exchange plans to publish its fee schedule to offer transparency and allow users to compare costs with other providers. 

 “It is difficult to separate costs associated with trading and data and this means data is subsequently priced according to its value. Data’s value is increasing and therefore costs are increasing also,” said an anonymous individual. “Unbundling the cost of trading from the cost of data will probably not make any different to the price of data but it may offer comfort to participants.”

 In its report, AFME has suggested that standardisation of pricing models for purchasing data from all vendors should be implemented alongside uniform formats that data is stored and provided to firms and consistent data access procedures to remedy the issue. 

 Director-general of the Federation of European Securities Exchanges (FESE) Rainer Riess, however, believes exchanges are often scapegoated in the market data debate surrounding listed securities, instead arguing that they are the most regulated and open about their pricing while the buy- and sell-side are not required to meet the same standard. 

 A report by FESE and Oxera found that exchanges’ market data revenues had only risen 1% between 2012 and 2018. However, when regulators put forward plans for a real-time post-trade consolidated tape in Europe in November, the Federation was quick to condemn the proposals and the impact that they would have on their revenue. The same report found that in 2019, aggregated market data revenues on exchanges were just ¤245 million, representing 0.003% of total assets under management, as a proportion of market capitalisation.

 “It’s only exchanges that are so far regulated but interestingly the debate is always coming back to them. It’s a 245 million Euro market, which in European terms is not big. The bigger fish is everything around it,” he said. “Business is changing and there is a higher cost with it. Exchanges are one area that is under very stringent regulation on a reasonable commercial basis and there’s been a lot of scrutiny of the exchange cost. When ESMA for example did its survey and the Commission asked us to, we provided revenue figures from our members. Interestingly enough the sell- and buy-side have never done an equal exercise.”

 Instead, he attributes rising costs in market data – particularly in Europe – to the fragmentation of the markets and complexities of aggregating data. “The complexity of markets has significantly increased. Ten or 20 years ago you had your five or six dealers and you picked up the phone and talked to them. There wasn’t much about data. Today you have 600 venues across Europe and you’re getting all kinds of bits and pieces of information that you’re trying to piece together.” 

Aggregation and direct connectivity

Buy-side data spend is predominantly dedicated to pricing and reference data – an area where, as seen previously, costs have risen the most out of any data type – alongside terminal data and ratings, AFME’s report found. It is because of this that buy-side institutions, particularly in fixed income, have begun exploring in-house aggregation solutions and direct connectivity with the sell-side. These are either developed using proprietary technology or off the shelf products.

 Credit Suisse, for example, aggregates data in-house across multiple venues, and this, according to Björkman, puts them in a favourable position by reducing their reliance on expensive venues and vendors for data. Venues have a different incentive for providing data then vendors, as they are trying to make their markets look attractive to us, he explains.

 “It is the power of the aggregation that’s happening from the buy-side perspective. That means that you cannot overcharge for data, at least not for the buy-side. We are a pretty large buy-side house with a significant flow which the venues can then benefit from,” he said. “We aggregate across multiple venues and the interest for them to show us data is therefore greater. It’s up to them to announce that liquidity and thereby provide us with data that supports the decision to go there.”

 However, this is not a be-all and end-all solution. Credit Suisse relies heavily on proprietary technology and spend to aggregate data and this is not a luxury that all buy-side institutions are able to enjoy.

 “It is obviously a favourable position to be connected to multiple venues and to be able to aggregate and base a decision on that. It’s still a fairly small number of the buy-side houses that have the means and infrastructure to aggregate data,” Björkman added.

 Off-the-shelf execution management systems from the likes of FactSet, FlexTrade, TORA etc. also offer buy-side firms aggregation capabilities. The use of these EMS or proprietary aggregation technologies to piece together fragmented sources of liquidity can reduce participant’s reliance on data offered by venues as they can be used to identify a price while the trade still takes place on the venue.

 However, adoption of these is not yet at a critical mass and potential future changes to regulation could make these systems just as costly for participants. Regulators set out plans in January to potentially change the scope of what is classed as a venue under MiFID II regulation, including order and execution management systems, that could leave buy-side firms that have integrated said systems forced to pay additional costs that could counterbalance any savings made on data. 

 “There are EMSs that facilitate this aggregation. It means that from a functional perspective you will have similar ability to aggregate data regardless of your infrastructure and size. The market tracking reference prices on the venues are still going to be the premium. That doesn’t mean that you will be totally dependent on them,” explained Björkman. “I don’t know how it looks in smaller private banks. In Europe, we tend to be further progressed than, for instance APAC and even the US, and that could also mean that you won’t see this development for a few more years until people catch up. EMSs capable of aggregating data are not on every desktop yet.”

 As suggested in AFME’s report, a consolidated tape could go some way to reducing market complexities, however, one will not resolve the issue of rising data costs alone. For fixed income in particular, where most products are traded over the counter due to the sometimes infrequent, non-standardised and illiquid nature of contracts, the specifics of a tape must be mapped out in detail before any significant impact is felt.

 “We all know roughly where the liquid stuff trades but it very quickly becomes far less liquid and that means the density of the data and quality of the data is going to be far less,” said Björkman. “That’s not going to change in fixed income. Even if you get a reference price from a trade that happened yesterday on the consolidated tape can I use that data? What’s the value? The precision?”

The future

If left unaddressed, the high price of data is only set to get higher and could leave some firms at a competitive disadvantage, forcing them to cut services or even withdraw from some markets all together. Regulators are finally beginning to recognise that there is a real issue here, and the result of the various investigations currently underway could potentially result in some welcome changes for concerned market participants. 

 In the meantime, the buy- and sell-side banding together through various initiatives could see a reduction on the market’s reliance on expensive venues and vendors. As they say, there is strength in numbers. However, whether any of these schemes can gain the critical mass needed to make an impact may be another story.

The post Data is too expensive and here’s why appeared first on The TRADE.

A new survey of the asset management community on researching pricing trends has revealed a number of notable challenges in the wake of MiFID II, The TRADE can exclusively reveal. 

Substantive Research, a comparison site that monitors and curates investment research and provides data-driven analytics on research spend to the buy-side, surveyed 40 asset managers across Europe and the US with AUM of between $2 billion – $800 billion. The findings show that regulatory changes designed to unbundle research to make the market more competitive have in fact done little to alleviate the massive concentration in research spend going to the core bulge-bracket banks.   

According to the research, 52% of research budgets went to the top 10 providers in 2019, decreasing to 51.6% in 2020. But in 2021, this jumped again to 53.1%, suggesting that the incumbents are actually getting more powerful, and competition is decreasing as a result of MiFID II.  

“If you look at all the benefits to competition that the regulator was hoping for, none of these have happened,” Substantive Research CEO Mike Carrodus told The TRADE in an exclusive interview. “There is a big focus on value now, but what hasn’t happened is new entrants managing to gain a foothold and encouraging competition, as that focus on value from the buy-side is what has constrained them to managing their existing relationships with brokers. 

“There is a clear message when you look at these numbers. To be honest, it’s not even about the top 10 – most of the spend is concentrated in the top three. The market is not fragmenting, it’s not deconstructing, as was hoped.”

Tight budgets 

The problem is that research budgets are being consistently slashed. Year-on-year, both US and European budgets decreased by 11%. And this is having an impact on provision. “On both sides of the Atlantic, asset managers have cut the tail,” said Carrodus. “This all speaks to resourcing and staffing. We lost 7,500 years of experience in the three years after MiFID II. Outside a small handful of brokers, people are maintaining a strict cost base when it comes to research. But you need this diversity, you need a market that encourages new launches and independent research. We don’t want to be like frogs being boiled – every year choosing from a more finite and more junior pool of analysts.”  

The problem is that although MiFID II had good intentions, the regulators underestimated the brokers’ propensity (and ability) to discount their product, subsidising their research provision internally in order to keep their clients. These meant that by comparison, independent providers looked very expensive, and the concentration towards brokers continued.  

Death of diversity 

“Top of any research list is those people who have managed to retain a cost base that manages to cover the most bases for most people,” said Carrodus. “But that doesn’t help diversity, depth and breadth in this market, which is arguably something clients also want to see. 
 
“In Europe, people have shrunk their budgets materially. And what was cut was optionality – the ability to call someone tomorrow that you don’t need (or pay for) today. People are only paying for what they need right now. But what happens when the market turns? How many people wanted to know about wheat, a year ago? Everyone is now scrabbling for new sources of information.”   

And suddenly, it seems the worm is turning. Now, in the current unprecedented geopolitical and economic circumstances, suddenly people are needing more varied research again, and they don’t know where to get it from.  

“MiFID II doomsayers predicted that the regulations would make the market much less competitive, and specialist, differentiated research would become less available in times of heightened volatility,” said Carrodus. “What we are seeing now with volatile markets is a stress test proving them right, where we do not have sufficient energy analysts, for example, and asset managers are defaulting to their core relationships, the handful of bulge-bracket firms which dominate market share. There are high quality independent providers who can provide real expertise in these areas, but they are struggling to get paid for their efforts.”  

ESG influence 

The research also noted that while spending on ESG research is increasing rapidly, it still commands less than 1% of the average research budget (up from 0.47% in 2019), suggesting that while the issue gets a lot of airtime, this is not yet being backed up by the budgets. Spend is also focused on data rather than external research, which remains under-developed.  

However, Carrodus believes that this will change – and that this is where European research providers have the chance to make their mark. “We’ll see big changes in the next 12 months as people look to ESG research to help support their investment decisions. The messages from the data can be inconsistent, so people will be looking to protect themselves by understanding what they’re holding at a deeper level, rather than just trusting someone else’s rating. So ESG is the one area where smaller providers might able to tap budget and take market share.”  

Looking ahead 

So what can we expect for the coming year? It looks like given current conditions, the shoe might finally be transferring to the other foot and, after years in the wilderness, research providers are snatching back a bit of bargaining power. And that, inevitably, is likely to influence prices.  

Seventy percent of survey respondents already anticipate cost pressures from the core research providers – who are already paid well. Brokers and independents understand that, in this more volatile market and with deep uncertainty around the geopolitical turmoil, “have-to-have” research providers gain greater leverage with clients – and will use the opportunity to reverse the pricing trends of the past four years.  

But not everyone is on the same journey or will reap the same rewards. In 2018-19 all research providers were in the same boat – budgets were going down, everyone was hit. Now the situation is rather different, and every provider is going through a different experience – some are seeing their pricing power improve, while others are spiralling in terms of leverage with their clients.  

“It’s a vicious or virtuous circle, depending on where you are sitting,” agreed Carrodus. “Research is being used more intensively right now than it has in a long time, and people are leaning hard on the providers that are hitting the right pain points. Some providers will get increasingly less relevant, but the people who stuck to their guns and retained highly ranked and tenured analysts will want their chunk of change.  

The end of this year could potentially see an interesting negotiation period. Up until now the supply side of the research market has just accepted the price pressures and blinked. But that dynamic could be about to change, as these providers start to understand their new leverage.  

The post EXCLUSIVE: MiFID II has made research market less competitive, finds new survey appeared first on The TRADE.

The European equities market is set to get even more competitive now as smaller sell-side institutions continue to exit the market and the largest brokers absorb market share.

For several years shrinking commissions and stringent regulatory requirements imposed on the European market through MiFID II have made it difficult for participants to make equities trading pay. Rising costs have progressively encouraged economies of scale as a necessary means of survival in the market. 

“We’ve seen the market share in Europe has increasingly gone to the big three or four US banks and I think that’s even more notable since MiFID II,” Alex Jenkins, head of the trading desk at Polar Capital, told The TRADE.  

“When I think about the capabilities of the large US institutions, the amount of information analysis they have based on their own data, and the capabilities of their central risk books across asset classes, it’s just vast. I don’t know how you expect any smaller player to keep up with that.” 

Commerzbank was one of the latest participants to bow out of the market, confirming it would shut down its equity sales trading business in February as part of a drastic restructure plan that would see it reduce ‘costly complexity’ across its portfolio. Named Strategy 2024, the plans also outlined the bank’s intentions to cut 10,000 jobs in the next three years. 

“We have already started to review each and every client relationship on its return profile,” Manfred Knof, CEO of Commerzbank, said in a February statement. “In future, we will only deploy capital in client relationships that provide us with a decent return.” 

The bank joined a long list of other sell-side firms that, dwarfed by the giants on the other side of the pond, have chosen to cut their losses.  

Research and regulation 

Ongoing trends relating to regulation in Europe, particularly requirements enforced under MiFID II, have made equities a prickly asset class for institutions to handle.  

In particular, rules dictating how the buy-side consume and pay for research under MiFID II unbundling have had a significant impact on smaller boutique firms that relied on execution to pay for research. 

“We’re no longer in a situation where we can pay for research via execution, and that’s going to have an impact on those houses which in the past have relied on execution to help pay for that research function, particularly some of the boutique guys,” added Jenkins.  

Research unbundling requirements brought with them additional costs that larger firms have been able to absorb more easily, making equities a more profitable business.  

“The process of valuing research, modifying internal systems and communicating the MiFID II unbundling rule changes with clients was a big lift for buy-side firms,” said Anish Puaar, European market structure analyst at Rosenblatt Securities. 

Evidence of the impact of unbundling in Europe is clear from strategic partnerships recently forged in the industry. In late 2019, Kepler Cheuvreux and Macquarie joined forces to form an equities and research alliance. The deal saw the pair launch a platform for equities programme trading, and cross-distribute co-branded equity research to their client bases in Europe and Asia Pacific at the start of 2020. 

At the same time, Macquarie confirmed plans separately to reduce its domestic cash equities presence in Europe and the Americas in favour of refocusing its efforts on its business in Asia Pacific.

New regulatory requirements expected under the MiFID II review have the potential to make equities even more costly for participants with EU regulators keen to focus on a consolidated tape and continuing to encourage trading volumes from dark to lit venues. This will likely accelerate the need for scale seen in the market as participants are expected to absorb additional costs and navigate fragmented trading landscapes following Brexit. 

“That’s [the MiFID II review] going to come with a whole bunch of market structure changes, while Brexit could also pose further complexity as firms grapple with the best way to route orders to UK and EU venues. The recent Treasury consultation includes proposals that will likely result in significant divergence between UK and EU rules,” added Puaar. 

“Larger firms with scale and resources will find it easier to absorb those changes and deal with the regulatory headwinds.” 

SI regime  

The systematic internaliser (SI) regime, which became a key part of MiFID II, has also contributed to the ongoing requirement for scale in the European equities market. 

Trading volumes on SIs operated by brokers and banks have surged in Europe in the post-MiFID II era. A statistical analysis by the European Securities Markets Authority (ESMA) published in November  revealed that SIs had dominated the European equities landscape during 2019. However, the regime favours larger institutions that benefit from big balance sheets and extensive central risk books, allowing large US banks to consolidate market share.  

“The SI regime which says you’ve got to use your own capital again tends to favour firms that are prepared to deploy their own capital when trading with clients. That’s tended to be, not exclusively, the US banks,” said a former member of the sell-side who spoke to The TRADE on condition of anonymity.  

Regulatory changes amending the SI regime under MiFID II, for example relating to mid-point crossing, have also added to rising costs in the equities market that have somewhat excluded the smaller boutique players.  

“Banks spent a lot of time building SIs to meet regulatory obligations such as those related to pre- and post-trade transparency. But EU regulators have continually tweaked the SI rules, such as changing tick sizes and restricting mid-point trading, which requires systems to be constantly modified. These tweaks mean banks always have to be on their toes to remain compliant,” added Puaar. 

This need for scale has forced consolidation across banks and brokers in Europe as the smaller sell-side firms aim to bulk up to keep up with the larger players.   

Most notable was the deal agreed between Deutsche Bank and BNP Paribas in July 2019 in which Deutsche Bank agreed to transition its prime brokerage and electronic equities franchise over to its French rival. The agreement with BNP Paribas came as part of the bank’s restructuring plans that included exiting from equities sales and trading all together under a major restructure plan that aimed to reduce costs by around €6 billion by 2022.  

Through the integration of Deutsche Bank’s business, BNP Paribas said it was looking to become the top prime broker in Europe competing with the likes of Morgan Stanley, Goldman Sachs and JP Morgan.  

The French investment bank also acquired the remaining 50% stake in its long-standing partner and equity brokerage firm Exane in July in a move which brought its cash equities trading and research back in-house. Combined, both deals were intended to bulk out its business as it looks to stake its claim for the top spot as the leading institution in European equities.  

Never ending cycle 

As the market has continued to consolidate down to a few key players this has only sought to exacerbate the growing need for scale as the big players get bigger and the small get smaller. 

“The larger banks also have much more flow, and flow begets flow to a certain extent. They are able to improve their workflows and their hedging abilities with the more flow that they have,” concluded Jenkins.  

“It’s very difficult to play catch up; the big investment banks have already made large investments and significant developments in their equities platforms and they’re able to grow from that stronger footing.” 

The post In European equities size matters appeared first on The TRADE.

Chancellor of the exchequer, Rishi Sunak

The UK Treasury has published its capital markets review consultation that outlines its most detailed plans for sweeping changes to key MiFID II requirements in a post-Brexit world.

Under the government’s plans, MiFID II regulatory requirements for systematic internalisers (SIs), the share trading obligation (STO), dark trading restrictions and the tick size and transparency regimes will be overhauled.

Alongside changes to MiFID II, HM Treasury published several documents that outlined the UK’s approach to boost the finance industry post-Brexit. In a speech at Mansion House in London, chancellor of the exchequer, Rishi Sunak, said that as agreements with the EU on equivalence had not happened, the UK will now move forward with its own priorities.

“More open, more competitive, more technologically advanced, and more sustainable – that is our vision for financial services. The roadmap we are publishing today sets out a detailed plan for the next few years – and I look forward to delivering it, together,” Sunak added.

Under the proposed changes to Europe’s MiFID II, the UK government would allow multilateral trading facilities (MTFs) to execute transactions on a matched principal basis and dark pools to match orders at the mid-point within the best bid and offer of any UK or non-UK trading venue, rather than at the best bid and offer of the venue with ‘the most relevant market in terms of liquidity’ as defined under the requirements.

SIs would also be able to execute orders at the mid-point for all trades, including trades that are below large in scale (LIS), providing the executed price is within an SI’s quoted price. SIs became subject to the tick size regime last year, which proved controversial and restricted the venues’ ability to offer price improvements on orders below LIS.

Exchange groups have previously argued that SIs had an unfair advantage over lit venues in offering price improvement that would divert routing of client orders towards SIs instead of on-exchange venues. Major asset managers, including BlackRock, urged regulators to protect mid-point trading amid debate that the tick size regime would potentially be extended to SIs, periodic auctions and block trading venues.

The UK’s consultation added that amendments to the pre-trade transparency regime to encourage SIs to quote in more meaningful sizes would also contribute to price formation. SIs are currently required to publish quotes when they are quoting up to 10% SMS (standard market size) in liquid instruments.

As confirmed previously, the UK government will officially scrap the STO which requires investment firms to trade on a regulated market (RM), MTF, SI or equivalent overseas venues. The STO’s objective to increase lit trading activity has not been achieved, the consultation said, while the ability to execute at venues that offered the best price for investors had been limited.

The double volume caps (DVCs), which restrict the amount of dark trading that can take place on an instrument and market-wide level, will also be scrapped. The UK’s Financial Conduct Authority (FCA) will, however, monitor the level of dark trading and gain powers to suspend activity based on various metrics under the HM Treasury’s proposal.

Dark trading has been at the centre of the UK’s strategy to win back roughly €8 billion in trading volumes that left London-based venues in January 2021 for EU-based venues as the Brexit transition period came to an end. The UK has already slashed the threshold for LIS transactions for dark trading, in stark contrast to the EU which has limited dark trading, in an attempt to win back some of those volumes.

Citing a report from 2017, which suggested the DVCs were not suitable, the consultation said the DVCs are not an appropriate tool to protect price formation in UK markets. The FCA also highlighted in a separate report earlier this year that trading in dark pools can save execution costs for investors. Buy-side traders will welcome the decision to eradicate the DVCs. Following the EU’s review of MiFID II last year, a survey carried out by Rosenblatt Securities found that 75% of buy-side respondents supported the removal of the DVCs in their entirety.  

For fixed income and derivatives, the UK government is looking to overhaul the pre- and post-trade transparency regime. Complex liquidity calculations, which determine whether trades should be made public in real-time, would be replaced with a qualitative and quantitive assessment.

Highlighting that the liquidity calculations are not effective, the consultation said that between 52% and 69% of the corporate bonds that were included in an analysis by the FCA that were determined as liquid under the MiFID II calculations, were in fact illiquid.

The UK government also hopes to limit the scope of the pre-trade transparency regime to systems that operate under full transparency such as electronic order books and periodic auctions. The move would mean bilateral trades are exempt from the regime, and investors would gain more choice over opting into pre-trade transparency.

Elsewhere, the consultation explores options for a private sector established consolidated tape in fixed income. There is more urgency to develop a tape for fixed income data, the government said, as fixed income trading is less concentrated than equities and a larger share is executed OTC rather than on venues.

Plans for a consolidated tape in fixed income will also be welcomed by market participants, who have agreed that as there is still no tape in equities, it is a distant dream for fixed income. Some have argued that regulatory intervention is required if a tape is to be established as the task is deemed too costly to develop. The European Commission outlined plans to push for a tape in bond markets in January this year amid increasing pressure from the industry.

Market participants have been asked for feedback on all of the UK government’s proposed plans when the consultation opens on 2 July. Respondents have until 24 September to submit responses.

The post UK targets SIs, dark trading and consolidated tape in post-Brexit regulatory roadmap appeared first on The TRADE.

Trading in dark pools and periodic auctions can reduce transaction costs while more transparent venues incur higher costs and implementation shortfall, the research from the Financial Conduct Authority (FCA) said.

In one example, the FCA said that when dark trading is not subject to bans a 10% increase in the proportion of a parent order executed in a dark venue reduces implementation shortfall by 0.97 bps.

Executing on periodic auction venues produces a similar reduction in transaction costs, with savings of 1.17 bps for a 10% increase in proportion traded, the analysis of more than 58,000 parent orders from almost 1,000 market participants found.

“We find venue selection decisions matter,” the FCA’s paper said. “We find that the higher the proportion of dark or large-in-scale dark executions in the parent order, the lower its implementation shortfall. We also find that periodic batch auctions reduce implementation shortfall when dark pools are banned.”

The findings contradict similar research from the EU which has made efforts to restrict trading in dark pools to increase activity that occurs on pre-trade transparent or ‘lit’ venues. The EU introduced double volume caps (DVCs) in 2018 under MiFID II that trigger bans on dark trading when a transaction reaches a certain size.

The European Securities and Markets Authority (ESMA) stated in a review of MiFID II that the DVCs have had a limited, but overall positive effect on market liquidity. Market participants, however, have been vocal with criticisms on the move by regulators in Europe to curb dark trading, which they say allows for minimal market impact and often the best price for clients.

Similarly, periodic auctions came under intense regulatory scrutiny after ESMA expressed concerns that the venues were being used to circumvent the rules on dark trading. Amid fears the EU watchdog would ban periodic auctions, ESMA eventually opted to make changes to how the systems should operate.

The UK’s regulator has already said it will lift restrictions on dark trading for investors in a bid to attract more business in a post-Brexit world. A post-Brexit equivalence agreement was also reached on stock exchanges between the UK and Switzerland, which will increase activity for Swiss stocks on UK venues.

“It is likely that the DVC policy did not affect transaction costs because substitutes like periodic auction-based venues are available,” the FCA paper added. “Importantly, after the ban is lifted, we find participant volume moves back to dark pools, implying perhaps that participants prefer dark pools to periodic auctions when both options are available.”

The post Trading in dark pools and periodic auctions lowers execution costs, FCA paper concludes appeared first on The TRADE.