One third of investors said innovations such as periodic auctions and new block crossing platforms have improved their ability to source block liquidity according to a survey from consultancy Greenwich Associates.

MIFID II Transforms European Trading, the study commissioned by Refinitiv, found that 33% of investors agreed that block liquidity has improved under the MiFID II regulations. One fifth disagreed.

*New* The MiFID II Trading Transformation https://t.co/q5BDjGhn79 via @GreenwichAssoc by @_richjohnson pic.twitter.com/azAZ9feabg

— Greenwich Associates (@GreenwichAssoc) January 17, 2019

MiFID II, which went live at the start of last year, introduced double volume caps on equity trading in dark pools in order to increase transparency and shift trading to lit venues. However large-in-scale trades above a specified size and trades in periodic auctions on lit venues are both exempt from the caps, so their volumes have increased and are expected to continue to rise. Periodic auctions are different from the traditional opening and closing auctions on exchanges as they can last for very short periods of time during the trading day and can be triggered by market participants, rather than the venue.

Richard Johnson, vice president in Greenwich market structure and technology practice, focusing on equities and financial technology, said in the report that periodic auctions are considered to be lit trades under MiFID II as the indicative matched size is published prior to execution, but there is limited transparency around the individual orders submitted. In addition, many venues offer ‘broker preferencing’ meaning that contra orders from the same broker have priority in matching allowing them to cross internal flow.

As a result, the European Securities and Markets Authority issued a call for evidence on periodic auctions in November last year as the regulator said there are concerns that frequent batch auctions may be used to circumvent the double volume caps.

Johnson said: “However, we must also recognize that differentiation and competition between venues is good for markets, and that these new pools are satisfying a need in the market, as judged by the volume they have attracted and the feedback from buy-side traders.”

Buy side responses to the Esma review backed up the view that investors find periodic auctions useful.

Norges Bank Investment Management, which runs the NKr 8,513bn ($990bn) Norwegian Government Pension Fund Global, said in its response that as a large and global investor, NBIM uses a wide range of trading venues, which operate under different trading protocols and transparency regimes. The manager cited academic research which found that discrete time trading enhances liquidity and market stability by reducing the speed advantage of certain market participants – so competition on speed is replaced by competition on price.

“This feature makes periodic auctions a promising direction for market development, which has the potential to improve execution quality for long-term investors,” added NBIM. “Due to the novelty of this market structure, there is limited data to determine the efficacy of these new venues for end investors. Our own experience from trading on these venues has been positive and suggests that we can source natural liquidity.”

The responses to Call for evidence on periodic auctions for equity instruments are now available – https://t.co/BLS6aEEdHP#periodicauctions #equity #MiFIDII pic.twitter.com/KzZDvF9vtF

— ESMA (@ESMAComms) January 17, 2019

In its response BlackRock said that whilst the fund manager sees potential to improve the rule set or best practices for periodic auctions, they represent an important additional source of liquidity in the equity market ecosystem and contribute to delivering best execution for end-investors.

“Furthermore, we generally caution against a direct intervention from regulators to shift volumes from venues, such as lit periodic auctions, onto lit continuous markets since this may lead to adverse impacts for end-investors,” said BlackRock.

Amundi, Europe’s largest fund manager by assets under management, added in its response that it is necessary to identify the most efficient trading techniques in order to provide best execution to clients and benefit end investors.

“Our general view is that a fair balance should be maintained between (i) the necessity to keep the lit markets most active as they are central to price formation and transparent information and (ii) the capacity to trade in size without generating unnecessary market impact and price slippage,” wrote Amundi. “The question about periodic auctions has to be analysed under this dual and partly opposed approach.”

Sell side response

On the sell side, UBS said in its response that the bank is supportive of a diverse market structure for investors with differing objectives as single market models cannot be all things to all people.

“Periodic auctions are one of the models that we and our institutional clients value, provide measurable benefits to execution performance and reduce costs to end investors,’ added UBS.

The bank continued that more time and data is needed to determine liquidity changes due to these venues. UBS said it is supportive of a data-driven approach to regulation, but asks Esma to consider the cost and performance benefits to investors from periodic auctions, which are not covered in the call for evidence.

Broker ITG noted in its response that periodic auctions represent just 1.1% of European trading.

“Given this limited level of activity and the centralised, publicly accessible, pre-trade transparent trading they provide, we believe that any intervention in this developing area is unnecessary, curbs innovation and has the potential to negatively impact market structure,” added ITG.

Exchanges respond

Cboe Europe, which runs the largest periodic auctions platform, wrote in its response that it disagreed with the assertion that frequent batch auctions may be used to circumvent the double volume caps. The exchange traded an average daily notional value of more than €1bn ($1.14bn) over the third quarter of 2018 on Cboe Periodic Auctions.

“The double volume caps apply to dark pools which continuously evaluate order book impacting events on a time priority basis, are not price forming at all, since they are price receivers from a single lit book as required by the reference price waiver, and offer no pre-trade transparency,” added Cboe. “In contrast, Cboe Periodic Auctions periodically evaluate order book impacting events on a size priority basis, are price forming and offer pre-trade transparency.”

The exchange noted that Esma said various stakeholders have raised concerns regarding frequent batch auctions and said these concerns may be commercially driven.

“Cboe has received overwhelmingly positive feedback from the European trading and investing community for providing a product that is an attractive destination for executing order flow that was previously executed on many different types of trading mechanism, not just dark books,” added the response.

The exchange also noted that the rules for periodic auctions are explicit in the regulatory technical standards, leaving no room for an interpreting Q&A. “Any potential changes to the transparency regime for auction mechanisms must go through a proper legislative process including a full consultation and cost benefit analysis,” added Cboe.

London Stock Exchange Group operates periodic auctions in Turquoise Lit Auctions, launched in December 2017 and rebranded Turquoise Plato Lit Auctions in December last year. The UK exchange wrote in its response that periodic auctions offer a new execution channel for participants to meet their best execution requirements, which is an integral part of MiFID II.

Turquoise Plato Block Discovery™ has traded more than €150 billion for which we thank our customers & @PlatoMarkets for helping us surpass this important milestone. pic.twitter.com/6P8FLWXOFY

— Trade Turquoise (@tradeturquoise) December 21, 2018

“Some academic experts argue that frequent batch auctions provide a potential solution to latency arbitrage due to the discrete-time matching mechanism, implemented by a random end time, provides improved execution analytics and this is demonstrable with data from independent analytics providers which shows that with continuous matching this can cause the price to move immediately after the trade takes place,” added LSEG. “Best execution is optimised when price formulation is maximised (and potentially undermined if there is zero price formulation).”

The exchange continued that Turquoise data also shows an extremely low amount of self-matching – just 0.02% of trades are self-matching of orders of the same size arriving within the 100 milliseconds, the maximum duration of an auction call period.

Consolidated tape

Johnson noted that a more popular regulatory initiative may be to implement a consolidated tape provider, which does not currently exist.

BlackRock agreed in its response that an aggregated view of the market is a fundamental requirement in today’s fragmented and complex equity markets. The asset manager said market data must be timely, accurate, and delivered on an equitable and efficient basis.

“As such, it is also important for regulators to recognise the potential conflicts of interest and governance concerns which may arise from private or proprietary market data products which may compete with a public feed,” said Blackrock. “Having disparate feeds and multiple protocols / channels for transmitting data may contribute to difference in data speeds and create the perception of a two-tiered ecosystem for market data.”

Cboe added in its response that the nature of the mid-point price is relevant when assessing periodic auction.

“The mid-point order type available in Cboe Periodic Auctions derives the mid-point price from a European Best Bid and Offer , which Cboe has produced in the absence of a European consolidated tape,” said the exchange. “MiFIR in its implementation narrowed the definition for reference prices that are eligible for use with the reference price waiver, it is no longer sufficient that a reference is widely published, it has to be from the most relevant market of liquidity.”