Trading using execution algorithms and direct market access could increase to just under 70% of European equities order flow by 2012 from 2009’s level of 51%, according to a new report by research and consulting firm Aite Group.
The study, ‘The European Equity Electronic Trading Landscape: How Deep Is Your Pool?’, based on conversations with market professionals and brokers that provide electronic trading solutions, found that the growth will be driven by a combination of traditional long-only asset managers increasing usage of electronic execution tools and the increasing participation of high-frequency traders in Europe’s equity market.
“As traditional clients become more accustomed to the fluctuating European landscape and adapt to the evolving technologies available, we will see a significant uptick in the volume executed via algorithms and DMA,” wrote Simmy Grewal, Aite analyst and author of the report. “In addition, as liquidity returns to European markets and frictional costs are removed, we can expect an expansion of high frequency players.”
Aite estimates that high-frequency trading in Europe will increase to just below 45% by 2012 from around 25% in 2009.
Aite also expects electronic trading tool and algorithm use to grow in asset classes beyond equities. While execution algorithms are a staple of equities trading in Europe, their use for trading instruments such as foreign exchange (FX) derivatives has been muted so far. Grewal pointed out that as the European options market is in its nascent stages, exchange-traded options currently lack the volume needed to develop algorithms, but added that regulation could change this. “As regulators push over-the-counter (OTC) derivatives toward an exchange-traded model, electronic trading of these instruments will flourish,” she wrote.
The research company also expects algo FX use to surge. The report said traditional FX traders are currently unfamiliar with algorithms and the execution process is highly manual. FX traders are currently quoted a price with a certain size of liquidity and if they require a larger size, the spread widens. While they can trade in smaller size throughout the day, doing so exposes them to execution risk. “Many well-known FX houses have begun to develop FX algorithms to remove this manual process and educate their clients,” wrote Grewal. “This will be the next big growth area for algorithmic trading.”