Trading on Chi-X Europe increased in the stocks affected by the London Stock Exchange’s partial outage on the afternoon of Monday, 9 November, but opinions have contrasted sharply on whether this represents a significant step forward for the pan-European multilateral trading facility (MTF).
At 15.04 on 9 November, the London Stock Exchange (LSE) experienced a glitch in its TradElect trading engine and Infolect information system which impacted a twelfth of all instruments traded on the LSE. The affected instruments, which included several large-cap names as well as exchange-traded funds and depositary receipts, did not trade on the exchange after this time and were not entered into the closing auction, which takes place between 16.30 and 16.35 after continuous trading has closed. Normal trading resumed the following day.
According to figures from Chi-X Europe, the MTF’s share volumes for several of the affected stocks rose during the outage. For example, the number of trades executed on Chi-X in BHP Billiton, the global resources firm, increased to 4,493 between 15.00 and 16.00 from 3,741 between 14.00 and 15.00, and even further to 5,339 between 16.00 and 16.30. Share volumes in BP followed a similar trend, rising to 5,670 between 15.00 and 16.00 – and to 6,555 between 16.00 and 16.30 – from 4,587 between 14.00 and 15.00.
The period following the US market opening – 14.30 UK time – is traditionally a busy one for MTFs, but figures from data vendor Thomson Reuters show that Chi-X’s market share in BP and Billiton increased on the day of the outage. Chi-X’s share of the turnover in BP rose to 40.4% on 9 September from 27.8% on 6 September, but fell back again to 34.2% on 10 September. The LSE’s share of BP turnover dropped to 43.4% on 9 September from 59.7% on 6 September, and rebounded to 51.4% on 10 September.
Nevertheless, Chi-X Europe’s overall market share of trading in UK FTSE 100 index stocks actually fell to 21.4% on 9 November from 24.7% on the previous Friday and went back up to 24.7 on 10 November, according to Thomson Reuters. The LSE’s FTSE 100 share increased to 59.9% on 9 November from 55.8% on 6 November, and declined to 56.2% on 10 November.
Hirander Misra, Chi-X Europe’s chief operating officer, told theTRADEnews.com that the willingness of 40% of Chi-X clients to continue trading during the partial outage demonstrated that MTFs account for more than just arbitrage flow. Chi-X Europe estimates that 40% of its flow is typically derived from high-frequency traders, 10% from agency brokers and 50% from banks and proprietary trading desks. “There was enough liquidity from the different types of players to ensure that spreads remained as tight as they were before the partial LSE outage,” said Misra. As of 20 October, Chi-X had 108 trading members.
The LSE took a very different view, citing its 5% increase in market share on the day of the partial outage as evidence that MTFs are still reliant on stat-arb firms that require the LSE to provide a reference price in order to trade. “The fact that the LSE’s market share was higher than usual on the day of the outage points to the centrality the exchange has to the price formation process,” an LSE spokesman said.
During the LSE’s last major outage, on 8 September 2008, trading on MTFs came to a virtual standstill, with traders citing a lack of primary market pricing as a reason for their reluctance to continue. Many also blamed wide spreads on venues such as Chi-X Europe.
However, the story was different in the most recent outage. “For us it was something of a non-event, which is a good thing as far as the MTFs are concerned,” said Steve Wood, global head of trading at buy-side firm Schroder Investment Management and head of the dealing committee at the Investment Management Association, the UK asset manager’s trade body. “Our programme trading desk said they were unaffected by the LSE outage.”
Part of the reason for the difference is that brokers have tweaked their algorithms and smart order routers to enable them to take account of MTF pricing when no primary pricing is available, said Wood. “If there is a more systemic outage at the London Stock Exchange, say for a whole day or couple of days, then it will be very much to the benefit of the MTFs now. The lessons from that missed golden opportunity when the LSE was out for a whole day have been well and truly applied and brokers have incorporated that into their structures now.”
A further reason why some firms felt able to continue trading on 9 November is the increased fragmentation of liquidity since September 2008, with Chi-X, among others, increasing its market share in FTSE 100 stocks. “During the last LSE outage in September 2008, we had less liquidity on Chi-X Europe – around 16% of the FTSE 100 and 10% of the FTSE 250, where as now we have about 25% and 20% respectively. Once we have got a 20% share in any given market, we find that liquidity begets liquidity,” said Misra. The LSE’s share of FTSE 100 trading was 76% in September 2008, compared with 57% in October 2009, according to figures from data vendor Thomson Reuters.
A source at a large global brokerage said that the percentage of trading taking place on alternative venues was a key factor in routing orders.
“When the amount of trading on alternative venues was 5%, with 95% of the trading taking place on the primary, unless you had sufficient limit orders on the alternative venues to regain price discovery, it was difficult to be confident that the prices on the alternatives were good when the primary went down, particularly as not all of that 5% may have been on one venue, and those prices may have been based on the primary in the first place,” the source explained. “The technology has to be able to accept prices from the alternatives, but it is also a question of whether you trust those prices.”
Chi-X acknowledged that its still has work to do. At a shareholder meeting this week, the firm urged the remaining 60% to make the necessary changes to continue trading on Chi-X during a primary outage.
Wood says that MTFs are still not able to fill the breach left by the primary exchange during an outage at present. “It is not 100% there. Liquidity is still very sticky. If you are not one of the bulge-bracket brokers with sophisticated algorithms and smart order routers that are not led by the primary market, then how do you cope?” he said. “Smaller brokers are going to have to invest in technology to make sure they can get to the other MTFs, not just the primary exchange. It is still a work in progress, but the more times this happens, the more imperative it becomes for people to access those other pools of liquidity.”