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Addressable liquidity is a fluid concept in Europe. The UK Financial Conduct Authority has opted to shift away from it, particularly in the context of Systematic Internalizers (SIs) and post-trade transparency reforms. To improve the competitiveness of European markets, EU policy makers are advocating for simpler rules but not regulatory relaxations. Making MiFID II liquidity classification and transparency regime less rigid should be welcomed. The adoption of FIX Market Model Typology (MMT) flags in equity market data feeds raises concerns about: latency; the appropriate placement of trade lifecycle information; and, doubt if over-the-counter (OTC) trades are truly assessable by anyone. Our explanations as follows:
Context / Background
‘Off-Book On-Exchange’ OTC trades notional values are on the rise against a decrease in execution at lit stock exchanges, while such OTC volumes are hovering around 0.5% of the total equity trades in Europe. Per a BMLL study, if “excluding trades reported with the NPFT (Non-Price Forming Trade) or TNCP (Trade not Contributing to the Price Discovery Process) flags … the Off-Book On-Exchange market share of addressable trades has stayed flat at 7%.” According to this OXERA/ AFME study, “Some reported transactions that are flagged as OTC and SI trades are in fact technical transactions, such as collateral transfers, give-ups and give-ins, and inter-affiliate trades undertaken for operational purposes. While technical trades may be relevant from a supervisory and/or post-trading perspective, it is not informative to include them in an analysis of the trading and liquidity landscape.”
Investment firms (IFs) in the EU are asked to follow the MiFID II/ FIX guidelines to report trades in NPFT or TNCP categories. Basis includes trade type and execution context. For example, internal transfers, book corrections, and other “technical trades” for operational purposes, “benchmark trades” that based on an index rather than the prevailing market price, and “agency cross trades” matched at a mid-point price bypassing the auction mechanism are deemed NPFT. Yet, investment firms struggle to assess whether a trade contributes to liquidity formation or price discovery when the EU lacks a reliable source of information to best represent the supply and demand dynamics.
Challenges and Controversies
“Dark Pool transactions” for instance executed at a benchmark price without affecting the bid-ask spread may be considered as NPFT, amid the internalized liquidity matching the trade being executed within a private venue and reported post-trade. Whereas a dark pool transaction may be flagged as TNCP when it is executed at a negotiated price but does not impact the bid-ask spread of the EBBO (European Best Bid and Offer) nor contribute to real-time price formation and is part of a large-in-scale exempted transaction from immediate transparency requirements.
“Give-up trades” that execute on behalf of another party and transfer the trade to final clearing firm at a set price, or “give-in trades” that accepts the trade from the executing broker in completing the clearing process if the transfer has no price formation implications are typically flagged as NPFT. However, if certain off-book transactions that the give-up or give-in trade is reported in a way that does not affect market pricing, it could be flagged as TNCP.
This is hard! IFs with latency disadvantage would not know if other participants are having quote/ trade contributions and/or cancel orders in faster speed could affect the queuing sequences in “real time”, until after-the-fact in clearing and settlement systems that they found who and which particular trade have moved the market price. Sometimes, even the stock exchanges are behind the high frequency trading firms in knowing a market manipulation may have occurred at their exchanges. Venue-by-venue competition means different venues with different capabilities are fabricating and serving their selected market segments, whilst stock exchanges are unlike OTC – they cannot choose who they interact with. Amid no trade-through order protection rule in Europe, market integrity still needs to be upheld.
Single source of access versus single source of truth
During a FIX EMEA Trading Conference, an Expert from SIX highlighted that ISO-20022 is NOT suitable for low-latency, high-volume trading environment due to its verbosity and inherent latency. Embedding MMT trade lifecycle information into real-time market data feeds introduces several inefficiencies. IFs reliant on real-time data transmission will experience latency drags when excessive classification metadata is introduced. In fact, IFs seeking lifecycle information can already access clearing settlement records or subscribe to APA (Approved Publication Arrangement) feeds, reducing the need for MMT classifications in live consolidated market data feed.
Off-book on exchange OTC trades took about 10 seconds after actual execution to be published by the APA. Then, there is the 50+/- milliseconds tolerance allowed under the faulted ESMA equities consolidated tape (CT) RTS, hundreds-of-thousands trade messages will get muss at any given point in time in the CT. Non-self-aggregating IFs would not be able to tell which message is the first, or the second, … and which is the trigger or the end an event. Majority of IFs will not aware that they have been receiving inferior prices when crappy data is provided by Exchanges/ APAs to the CT provider. Empirical evidence proves Exchanges are optimally restricting access to price information. Such self-interest exacerbates the latency gap between proprietary products (PPs) and CT, and/or attempts to hold-off the advancement of CT, cause data fragmentation.
Those who wanted the Europe equities CT to be a “single source of truth” (like the US consolidated tape that encompasses pre-and post-trade data and lifecycle and detailed event data in a centralized data vault) with inclusion of MMT flags, are indeed causing further data fragmentation, delaying the EBBO refresh rate and widen the bid-ask spread. Remember – EBBO is an advertised price. In order for the CT to best represent supply and demand in real-time as a “single source of access”, the CT consolidated quote system must prioritize on speed over richness of contents. Defying this principle significantly affects the European markets competitiveness against the US and UK.
Divergent and implications
Amid an ESMA spoke person declared that the “execution policy standards will NOT rely on the CT to enforce consistency”, in essence, this implies that the EU equity tape is NOT offering a real usable EBBO. This is a departure from a universal adopted approach, where metric measurements (e.g. fill rate, execution speed, effective versus realized spread, order-to-execution ratio, VWAP, slippage, etc.) are typically used to objectively fulfill order-routing disclosure and best execution requirements.
Jurisdictions taking divergent paths is nothing new. However, if execution policy standards are required to be accessed ONLY on semi-annual or annual basis, then IFs will be reluctant to up their game in execution performance but will possibly act in contrast to the best interest of their clients. ESMA RTS discourages variety and veracity in price discovery, as well as it is a detriment to market competition. This can be perceived as a protectionism policy for the domestic European markets. However, how would that achieve policy goals of “attracting institutional investor participation, better connect savers and borrowers irrespective of their geographical location” and growing the competitiveness of European markets?!
The trouble is – even when the best price was at Multilateral Trading Facilities or SI that IFs diligently route their orders in the best interest of investors, the CT provider and Exchanges controlled APAs can skew the picture subjectively. This is in effect forcing IFs to subscribe to PPs. On top of the onerous data license audit, heavy fines may be imposed on IFs for mis-routing orders and/or erroneous information under Article 22b(3) of MiFIR. Putting all the blames on IFs for “data quality” issues is unjust. Deliberate act to degrade the ecosystem, poor controls, system glitches, volatility interruption mechanisms (such as LULD is NOT thoroughly implemented), or operational resiliency issues at the Exchanges or APAs are the bigger concerns.
Bottomline
Different for the sake of being different and slogan-based diplomacy does not serve the public any good. Let’s be real, NOT everyone can strike OTC deals with the Wallenbergs, Rothschilds, or the like. There is a line between private rights and social costs. Instead of majoring in the minors and getting caught in the fight between Lit Exchanges and OTC bilateral trades, equities trading in electronic order books have 99+% of the volume. CT is suitable for latency-sensitive users, where IFs can use a mix of CT and proprietary feeds to save substantial cost. A healthy market should welcome both hunters and famers type of firms domestically and globally to grow the overall pie.
Single source of access versus single source of truth
During a FIX EMEA Trading Conference, an Expert from SIX highlighted that ISO-20022 is NOT suitable for low-latency, high-volume trading environment due to its verbosity and inherent latency. Embedding MMT trade lifecycle information into real-time market data feeds introduces several inefficiencies. IFs reliant on real-time data transmission will experience latency drags when excessive classification metadata is introduced. In fact, IFs seeking lifecycle information can already access clearing settlement records or subscribe to APA (Approved Publication Arrangement) feeds, reducing the need for MMT classifications in live consolidated market data feed.
Off-book on exchange OTC trades took about 10 seconds after actual execution to be published by the APA. Then, there is the 50+/- milliseconds tolerance allowed under the faulted ESMA equities consolidated tape (CT) RTS, hundreds-of-thousands trade messages will get muss at any given point in time in the CT. Non-self-aggregating IFs would not be able to tell which message is the first, or the second, … and which is the trigger or the end an event. Majority of IFs will not aware that they have been receiving inferior prices when crappy data is provided by Exchanges/ APAs to the CT provider. Empirical evidence proves Exchanges are optimally restricting access to price information. Such self-interest exacerbates the latency gap between proprietary products (PPs) and CT, and/or attempts to hold-off the advancement of CT, cause data fragmentation.
Those who wanted the Europe equities CT to be a “single source of truth” (like the US consolidated tape that encompasses pre-and post-trade data and lifecycle and detailed event data in a centralized data vault) with inclusion of MMT flags, are indeed causing further data fragmentation, delaying the EBBO refresh rate and widen the bid-ask spread. Remember – EBBO is an advertised price. In order for the CT to best represent supply and demand in real-time as a “single source of access”, the CT consolidated quote system must prioritize on speed over richness of contents. Defying this principle significantly affects the European markets competitiveness against the US and UK.
Divergent and implications
Amid an ESMA spoke person declared that the “execution policy standards will NOT rely on the CT to enforce consistency”, in essence, this implies that the EU equity tape is NOT offering a real usable EBBO. This is a departure from a universal adopted approach, where metric measurements (e.g. fill rate, execution speed, effective versus realized spread, order-to-execution ratio, VWAP, slippage, etc.) are typically used to objectively fulfill order-routing disclosure and best execution requirements.
Jurisdictions taking divergent paths is nothing new. However, if execution policy standards are required to be accessed ONLY on semi-annual or annual basis, then IFs will be reluctant to up their game in execution performance but will possibly act in contrast to the best interest of their clients. ESMA RTS discourages variety and veracity in price discovery, as well as it is a detriment to market competition. This can be perceived as a protectionism policy for the domestic European markets. However, how would that achieve policy goals of “attracting institutional investor participation, better connect savers and borrowers irrespective of their geographical location” and growing the competitiveness of European markets?!
The trouble is – even when the best price was at Multilateral Trading Facilities or SI that IFs diligently route their orders in the best interest of investors, the CT provider and Exchanges controlled APAs can skew the picture subjectively. This is in effect forcing IFs to subscribe to PPs. On top of the onerous data license audit, heavy fines may be imposed on IFs for mis-routing orders and/or erroneous information under Article 22b(3) of MiFIR. Putting all the blames on IFs for “data quality” issues is unjust. Deliberate act to degrade the ecosystem, poor controls, system glitches, volatility interruption mechanisms (such as LULD is NOT thoroughly implemented), or operational resiliency issues at the Exchanges or APAs are the bigger concerns.
Bottomline
Different for the sake of being different and slogan-based diplomacy does not serve the public any good. Let’s be real, NOT everyone can strike OTC deals with the Wallenbergs, Rothschilds, or the like. There is a line between private rights and social costs. Instead of majoring in the minors and getting caught in the fight between Lit Exchanges and OTC bilateral trades, equities trading in electronic order books have 99+% of the volume. CT is suitable for latency-sensitive users, where IFs can use a mix of CT and proprietary feeds to save substantial cost. A healthy market should welcome both hunters and famers type of firms domestically and globally to grow the overall pie.
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By Kelvin To, Founder and President of Data Boiler Technologies Data Boiler is a Type C organization member of the European Commission’s Data Expert Group. Between my patented inventions in signal processing, analytics, machine learning, etc. and the wealth of experience of my partner, Peter Martyn, we are about Market Reform, Governance, Risk, Compliance, and FinTech Innovations to create viable paths toward sustainable economic growth. |
