Market complexity growing alongside large-in-scale trading and periodic auctions

TradeTech keynote discussion panel finds that while large-in-scale trading and periodic auction activity is on the rise, so too is market complexity.

The increased use of large-in-scale (LIS) trading platforms and periodic auction books are creating further market complexity and fragmentation, according to a cross-industry panel at this year’s TradeTech conference.

Since the introduction of the new directive at the start of the year there has been a significant shift of trading activity towards LIS and periodic auction venues, while the implementation of the systematic internaliser (SI) regime has added further complexity and fragmentation to the European markets.

JP Morgan Asset Management’s European head of equity trading, Neil Joseph, said the firm has seen a number of shifts within the trading channels it uses as the effects of MiFID II and the new venues have come into play.

“This time last year, the percentage of our orders book that went through the high-touch, the cash desk channels versus the electronic, they were slightly in favour of electronic and that continued throughout the year,” he said.

“That started the shift towards the end of last year into this year to the extent that they were level and, if anything, slightly favoured cash desk. There are a number of things influencing this, but as soon as the dark pool caps came in to place in March, cash desks decreased by 30% and algos increased by 30%.”

For operators of LIS or periodic auction venues, such as Liquidnet and ITG who were represented on the panel by Mark Pumfrey and Rob Boardman, the expectation is that new LIS platforms will soon come to market. Boardman pointed out that while Europe lags behind the North American market in terms of platforms and volumes traded, this trend won’t last for long.

Christoph Hock, head of multi-asset trading at Union Investment, said that although the changes to the market landscape have created more complexity, it is an “optimal environment for trading” nonetheless.

“We want to make sure that we deliver the best possible execution service for our investors,” said Hock.

“We want to lower the implicit trading cost and market impact. We want to make sure that we have as little as possible information leakage. With a variety of different types of trading, the very explicit way we can address the barriers of SIs for certain types of orders, we have the very best choice we can make to optimise our trading outcome.”

“All the trends we have discussed is clearly in our favour and it’s also important from a regulator’s perspective to understand that the ecosystem we have right now is a complex one – as a buy-side firm you have to ask the right questions to the individual providers – but from our perspective a perfectly functioning ecosystem, which hopefully will remain sustainable.”

However, not all panellists were so enthusiastic about the current market landscape. Kjelle Blom, COO of Dutch electronic market maker Optiver said the company made a specific decision not to start an SI function due to the existing levels of market complexity and the plethora of new venues.

“We said that we don’t want to start an SI, we don’t see that further fragmentation is going to benefit the market. How can it be more efficient for the whole market if it is fragmented over 200+ marketplaces. I don’t see that whatsoever fundamentally,” said Blom.

“We are a fundamental believer in the lit exchange, but if everything shifts away from lit markets to SIs or alternatives, the comparison with the lit market becomes better and better, because lit markets are getting worse with less liquidity. It becomes a self-fulfilling prophecy.”

Ultimately, there is no “one size fits all” approach said ITG’s Boardman and the risk of further complexity in the markets is one that each company will have to approach differently.

“I think the market can take that, with education and people having statistical analysis, they can understand venues,” he added.

“We like to use periodic auctions, liquidity is more variable than some other markets, but overall I think they are a good compliment what LIS does when you have genuine liquidity meeting in larger size. The two together are a good combination.”