Alternative Venues Bring Innovation

Terry Flanagan

With the markets becoming increasingly competitive with a proliferation of trading venues, the onus has been on the newcomers to bring innovation.

In recent history, it has been the alternative trading venues entering the marketplace introducing new ideas while established exchanges remained stagnant.

“In 1999, when Regulation ATS was on the books, exchanges were rigidly run, with innovation at next to none,” said Jose Marques, managing director and head of electronic equity trading at Deutsche Bank during Markets Media’s 2011 Global Markets Summit. “When Reg ATS was implemented, that’s when we had real market structure evolution. Every innovation in the last 10 years came from ATSs, from maker-taker pricing, low-latency trading platforms, hidden orders, iceberg orders, they all came out of ATSs and eventually migrated to exchange platforms. ATSs have been good for market structure evolution. It has worked and is positive for the marketplace.”

In addition to new pricing structures, the successful ATSs bring features to the markets that few others can match. Liquidnet, for instance, often touts its large average execution size, which is close to 50,000 shares. Large block trading is something that is otherwise difficult to accomplish on an exchange without impacting the markets.

PDQ Enterprises, the developer and operator of the PDQ Alternative Trading System, recently announced the launch of its auction model, which it said is the first of its kind in the high-speed equity trading landscape. The auction system will work through an “electronic algorithmic crowd” competing for orders, and is designed to improve pricing and increase liquidity for traders. When an order is received by PDQ, the order is then paused for 20 milliseconds, during which algorithms respond with their most competitive quotes, building a book where the responses are prioritized on a price-time basis. After 20 milliseconds, the trade is then matched against that book.

Agency broker-dealer Instinet has been operating a variety of ATS’s and dark pools throughout its history, with Chi-X Europe perhaps its most successful. Although Instinet no longer directly operates Chi-X Europe, its success has also been experienced by similar venues launched in Canada and Japan, and most recently, Australia.

The ATS process has allowed innovation to come in and get scale. Meanwhile, because of their size, exchanges tend to be slow moving and have not been the center of innovation.

The evidence of that has the substantial market share that ATS’s have been able to wrest away from the established exchanges. In Canada, ATS’s have been able to garner about 35 percent markets share away from the Toronto Stock Exchange. The London Stock Exchange has just about 51 percent share in its home country. Off exchange trading accounts for about 30% of all equities volume in the U.S.

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