A New Wave of Fragmentation

MiFID II introduced a raft of new regulation into equities trading, much of which extended the original MIFID directives and was designed to bring liquidity from the dark into the light, with an aim to provide better pre-trade transparency in the market.

There are a few critical parts to this. First, double volume caps were introduced to limit off exchange and dark trading once volumes over the last 12 months exceeded the 4 percent and 8 percent limits. The suspensions apply to the waivers used on the venues on specific instruments, limiting where you can trade and how. Large in Scale (LIS) waivers are never suspended through these caps, so you can always trade LIS orders wherever you need.

Second, as venues looked at how they could overcome these hurdles, MiFID II introduced more periodic auction books, allowing you to post liquidity to a dark book. But where executions trigger an auction, the auction provides some pre-trade transparency and stays in-line with the new directives. These auctions fulfill MiFID II’s lit requirement prior to matching and are now available through exchanges, MTF venues and Tier 1 providers.

It’s been just a few months since MiFID II went into effect and we’re already seeing signs of further fragmentation in the equities market. No one is sure how much this will continue to evolve but we still anticipate further changes throughout the coming months. There’s a definite shift away from dark pools due to the Double Volume Caps, and volume isn’t shifting back to lit exchange books as readily as perhaps the regulators would have liked.

LIS books are gaining momentum, and interest and liquidity are growing in auctions on demand. Ultimately, this fragmentation will increase costs for participants, and these costs must somehow be passed to the end client. In a world where trading commissions are already very thin, the pressures this puts on firms and the industry as a whole will certainly not be beneficial to healthy competition.

So, has MiFID II really increased pre-trade transparency? Or has it just made an already complex landscape even more complex and increased costs to all participants along the way without actually achieving its goals? Only time will tell and we’ll be watching keenly over the coming months as we see how the European liquidity evolves. We’ll keep you posted.