Broker crossing networks such as Credit Suisse’s Crossfinder and other alternative dark venues, are gaining traction in Japan, although future technological improvements on the Tokyo Stock Exchange (TSE) and potential regulatory restrictions may provide challenges down the road.
Since regulators in Japan clarified the rules on reporting dark pool trades to the Tokyo Stock Exchange Trading Network (ToSTNeT) for TSE-listed stocks and the J-NET market for Osaka Securities Exchange (OSE) listed stocks in 2010, there has been growing acceptance and utilisation of unlit liquidity amongst Japanese buy-siders.
“There’s been a dramatic increase in participation over the last couple of years, and 90% of our clients, from overseas hedge funds to domestic asset managers, are now able and willing to access dark liquidity,” says Ross Whittaker, head of AES for Japan at Credit Suisse.
“The clarification from the regulators as to what can and can’t be done with internal crossing in Japan was certainly a catalyst, and gave people the comfort level to start looking at crossing engines,” adds Whittaker.
Both infrastructural and functional improvements in unlit venues, from increased speeds and capacities to optimised algorithms, are also increasing the appeal of venues like Crossfinder, according to Whittaker.
“We have enhanced the algorithms so that they have become more intelligent about how and when they add and take liquidity from Crossfinder,” says Whittaker.
Given that liquidity and volumes are low on the primary venue, the TSE, compared to historical averages, the importance of alternatives has increased, with market participants looking for new sources of liquidity to tap into and get their orders done.
“Because Crossfinder has achieved the critical mass that it has over the last couple of years, it is a compelling source of liquidity. Not only is it liquidity, but it’s liquidity that is 85 to 90% of the time at a price advantageous compared to the TSE,” says Whittaker.
In response to concerns about what kind of liquidity orders are interacting with in unlit venues, Credit Suisse has implemented its Alpha Scorecard analytic, which measures the way in which different clients are interacting with liquidity in Crossfinder. The anti-gaming function gauges whether flow is ‘neutral’, ‘contributing liquidity’ or ‘opportunistic’ – letting clients decide what kind of counterparties they want to interact with.
Even as dark liquidity has finally gained acceptance in Japan, change may be on the horizon. With MIFID II in Europe looking set to ban, or at least severely restrict, broker crossing networks within a couple of years, pressure for similar regulatory reform is likely to filter through to Asia.
“We haven’t had any indication from regulators here that in the short term there will be changes, but in the long term, they will likely look at what’s happening in the US and Europe, and decide what is best for their home markets,” suggests Whittaker. “We hope that the regulators will learn from the mistakes there too.”
A further challenge to alternative venues across the board looks set to come from improvements on the TSE that are scheduled to come online after it has completed its merger with the OSE next year.
“If and when the TSE upgrades the arrowhead platform to something that is faster and supports smaller ticks sizes, that could trigger more structural change for the market because a lot of the benefit of using alternative venues, dark or lit, is that they are able to trade at more granular tick sizes and tighter spreads,” says Whittaker.