Volume Caps Under Scrutiny in MiFID II Review

Shanny Basar

The mandated review of the operation of MiFID II should focus on the double volume caps on equity trading in dark pools according to a poll at the FIX Community EMEA conference yesterday.

In order to increase transparency and shift trading to lit venues, the MiFID II regulations introduced double volume caps on equity trading in dark pools. In addition, MiFID II banned broker crossing networks and forced trades that require the use of a firm’s capital into systematic internalisers.

Tim Cave, analyst at consultancy Tabb Group, said in a report that approximately 13% of addressable European equity trading activity is conducted via SIs, compared with less than 1% prior to MiFID II’s introduction.

“And a growing proportion is being conducted through SIs run by electronic liquidity providers,” he added.

Large-in-scale trades above a specified size are exempt from the volume caps so most SI activity is above the LIS thresholds and conducted by investment banks according to Cave but electronic liquidity providers have become major participants in Europe’s equity market.

“Initially, it was never envisaged that electronic market-makers would run SIs, but many were attracted to the regime following the closure of BCNs and because it allows them to distribute their capital without incurring exchange fees,” he added.

Cave said total daily notional among the six ELP SIs that report to Tabb was  a record €1.45bn ($1.6bn) last month, compared with €1.12bn in the previous month . The largest ELP SI among those reporting to Tabb in January this year was Tower Research Capital.

Periodic auctions

Trades in periodic auctions on lit venues are both exempt from the caps under MiFID II, 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.

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. However, market participants largely responded that they value the function played by periodic auctions in the market and this was stressed at the conference in London yesterday.

For example, The Federation of European Securities Exchanges warned in its response to Esma that more onerous restrictions on periodic auctions could send volumes to less transparent execution venues, which would work against the regulatory aim of increasing transparency.

“There is a significant risk that trading volumes would go to dark venues that are less transparent than frequent batch auctions and volumes could also move to bilateral trading in systematic internalisers that are subject to less transparency requirements,” added FESE. “This would lead to overall less transparency in European equity markets, which should be avoided.”

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