Another potential unforeseen consequence of this regulatory change could be the rise in the use of periodic auctions , which may prove to be another popular way of externalising broker flows . Although initially designed to provide an alternative to MTF dark pools , as MiFID II subjects those dark pools to the Double Volume Caps in dark trading , periodic auctions are now being eyed by many brokers as a way to rehouse their BCN flows . As only the indicative price and volume will be shown , executing business in periodic auctions should provide less visibility and market impact versus trading on a lit book , albeit in frequent short lived time periods - which in itself could create some signalling risk . This ability to outsource broker matching is further enhanced by the use of broker preferencing : whilst not considered a guaranteed match it does allow brokers to pre-determine where they have both a buy and sell order that they can onward route to a periodic auction to consummate the trade .
Citi supports moves in emerging markets to open competition , including opening market access , to international investors and brokers . Its global footprint and leading access to local markets continues to draw on the strength of these developments to provide optimal liquidity solutions and reduced market impact .
The use of periodic auctions and broker preferencing could therefore be considered a cost effective solution in matching client business , especially if priced aggressively . However , if brokers pre-determine matching opportunities thereby increasing the likelihood of both sides matching when routing to those auctions , this business could become inaccessible to the rest of the market . This may be of concern to regulators , especially if periodic auctions take a decent share of market , which could be the case when considering the amount of business internalised or traded on MTF dark pools today .
The alternative to using market maker SIs and periodic auctions , depending on the makeup of the flow , would be to trade in sizes above Large-
In-Scale which are exempt from the Double Volume Caps . This would require a change in how brokers currently fragment orders when looking for liquidity across multiple venues to minimise market impact . One way to achieve this which has seen recent success is the use of conditional order types . However , the potential proliferation in conditional venues can only be efficiently managed by using sequential posting logic - which many brokers have yet to deploy .
Of notable absence in the MIFID II debate is the expected impact on central limit order books operated by the Regulated Markets and MTFs . With the continued growth in closing auction business , the likelihood that market maker SIs will take some share of the market , the rise in periodic auctions and the move to more electronic block trading , it ' s a fair assumption that continuous intraday liquidity will be further squeezed . This would contradict the regulators ’ efforts to move more liquidity to lit markets .
Finally , one significant piece of legislation that has yet to be clarified is in regards to the Share Trading Obligation and Equivalence . Specifically the question which third country venues , if any , will European regulated investment firms be able to trade on next year ? Apart from ignoring the legislation on the basis that trading the illiquid line of a particular foreign share on a European market is not in the best interest of the client and thus in conflict with best execution , there ’ s little else that can be done until we better understand the list of third country venues that have been granted equivalence .
Being able to access as many different liquidity sources as possible will be increasingly important in a market where liquidity is scarce and fragmented . This environment would favour those brokers that have the largest network and operations . However , one longer term consequence of this regulatory change could be consolidation of business among fewer larger firms , which may not be a positive outcome for the wider market .
Now more than ever , sell-side brokers must deploy resources to help buy-side participants navigate an increasingly complex market and achieve enhanced transparency and best execution across all asset classes and geographies .
20 www . buysideintel . com Autumn 2017