Asia’s market structure creates demand for increasingly granular trading information – as Kent Rossiter, Head of Asia Pacific Trading Allianz Global Investors and Michael Corcoran, Managing Director ITG discuss, FIX can help.
Asia Pacific faces different liquidity challenges to other regions, particularly given that spreads are often much wider and are therefore an even more significant contributing factor to overall trading costs (See Chart). As the trading environment evolves in the region and the focus on managing costs grows, the requirements for transparency and feedback on trading increases. This is happening in parallel with the evolution of new trading venues in the region, particularly dark pools. Buy-side traders now want a greater level of detail on their dark pool fills to help them understand the behavior of their orders and manage their execution venues proactively to get the best trading result.
Kent Rossiter heads up the Asia Pacific trading desk of Allianz Global Investors, and is constantly looking for ways to improve the efficiency of their process and minimise the costs of trading. From his perspective, while post-trade TCA is now well-established, a particular growth area is the requirement for more detailed data on a shorter timeframe. He explains “We as buy-side traders are now trading an increasing amount of our orders ourselves using the electronic tools available, and when we do so we want more granularity and data fed back to us: which venues are our orders being executed in, at what price, and how aggressively. We want information that helps us adjust strategies on the fly for better trading outcomes, or quickly review the results so we can manage our future performance.”
One result of this is new demand in the region for analysis of maker/taker indicators on orders so that a trader can identify how often they are crossing the spread to find liquidity. Allianz Global Investors has been working with ITG and other brokers in the region to implement support of maker/taker analysis to help the trading desks improve their insight into market conditions and get more transparency into the behavior of their orders in dark venues.
Understanding Maker/Taker Understanding whether an order is making or taking liquidity is important, particularly in wide-spread environments such as many of the Asian markets. Michael Corcoran, Managing Director of ITG, says “Traders want to know instantly whether they are providing liquidity or taking it, instead of retrospectively needing to compare fills and timestamps manually against what the market was trading at. This can be very useful information to help them adjust the trading strategy in real-time to the market conditions and the liquidity available. It can also help determine what kind of ‘throttle’ they should put on their strategy or their algo to find the right level of aggressiveness for the orders they are working. In addition to that it can also be a very valuable tool for sell-side firms, helping to refine the development and rules of algorithmic strategies and improve strategic ideas that will work for certain clients or order types.”
This is of growing relevance in a multi-venue environment, for example in Asia where over the past few years a lot more broker dark pools have been developed. Many buy-side firms now choose to use a dark aggregator to help improve their efficiency in accessing multiple venues, and here some kind of maker/taker liquidity analysis can be a helpful data point for assessing the type of outcome a trader is getting in those pools. Corcoran explains “Both ITG as a dark aggregator, and our buy-side clients themselves, want to understand whether orders are consistently making or taking liquidity in a specific dark venue so that the impact can be assessed – for example if our client’s orders always take liquidity in a certain venue we would review that to understand why. If we can pass that data directly back to the clients they can then make a decision about whether they want to be removed from that venue or change the distribution of their order flow across different pools. Likewise, if we see orders taking liquidity then see an unexpected change in the stock’s trading profile, this can be a useful warning indicator about the participants in a specific pool.”
FIX Tag 851 – a Potential Solution A specific FIX Tag, 851, or Last Liquidity Indicator, has been developed by FIX Protocol Ltd (FPL) as an identifier of maker/taker behavior. The US appears to have the most established support of liquidity-indicating tags with exchanges able to pass the data back to brokers and most of those brokers able to pass that on to clients. In Europe, likewise the large exchanges and brokers can support this, although there is less among the mid and smaller brokers.
However, in Asia the tag is sparsely supported, if it all, by the exchanges, alternative lit trading venues and many of the broker dark pools. Firms therefore have to come up with interpretive solutions and workarounds to give their buy-side clients a higher level of detail and transparency on their trading, particularly in dark pool aggregation.
Rossiter would prefer an industry-wide approach to improving transparency and the availability of maker/taker data which includes vendors, brokers, and most importantly the exchanges “Typically the actual FIX tag for this information is supposed to be generated by the exchange or trading venue, and it is passed to the brokers who need to be able to identify and accept that tag and then pass it into the vendor EMS or OMS platform that the client is using. So there are a number of parties within the workflow who are affected and they need to collaborate to bring in changes. An industry-wide adoption of the relevant FIX tag would definitely be a good solution”.
Australian Securities and Investments Commission’s (ASIC) Greg Yanco tells FIXGlobal how Australian markets are preparing for the future, including the launch of Chi-X Australia.
What are ASIC’s goals for an Australian consolidated tape?
ASIC has consulted with industry in relation to options to consolidate data from all venues. In Consultation Paper 145: Australian equity market structures: proposals (CP145), two options were put forward – a single provider established by tender process or multiple providers provided by ASIC. To this end, respondents overwhelmingly preferred a multiple consolidator model. As we have previously stated in the Response to Submissions on CP145 Australian equity market structure: proposals (REP237), this was based on industry expectation that existing data services can produce the most efficient outcome for users.
Submissions also overwhelmingly supported the proposal that market operators should be obligated to provide information to consolidators on a non-discriminatory basis in order to maintain a level playing field. While ASIC expects that more than one consolidator will emerge in Australia, if it becomes apparent that no industry solution is likely to eventuate to consolidate data from all markets, ASIC may revisit the issue and consider introducing a single consolidator via a public tender process.
Are additional clearing agents needed in Australia?
ASIC is aware that the topic of additional clearing agents in Australia is indeed a timely one. It is currently in discussion between industry representative bodies, ASXClear and RBA (as the regulator in the clearing & settlement space) with ASIC as an observer. Issues have arisen as to both quality and quantity of third party clearers, as ASXClear seeks to significantly increase minimum capital adequacy requirements for clearing participants, in particular third party clearers.
It is an area that ASIC will continue to monitor and a discussion that will be followed with great interest, both inside and outside of ASIC. We look forward to continued frank and candid discussions with the financial industry in this space.
How can smart order routing be most effective?
Smart Order Routers (SORs) will assist market participants in meetingtheir best execution obligations in a multi-market environment. Some participants will use SORs developed by independent service providers and some will build their own systems in-house.
Trading participants will be able to route orders automatically to different venues depending on specified criteria. In a multimarket environment the routing of orders could be split across venues depending on liquidity. In this way, ASIC expects that clients will received a better outcome overall, particularly so for retail clients, who will receive the best price across the markets unless they wish to instruct otherwise (e.g. for an order to be executed with an emphasis on speed, rather than price).
Does ASIC seek to encourage high frequency trading in Australia? If so, under what terms?
ASIC neither encourages nor discourages the practice. High frequency trading is, however, an area that is continuously monitored by ASIC, and we will respond if necessary to ensure that any such activity does not interfere with market integrity and fair, orderly and transparent obligations. In addition, market operator platforms must have adequate and scalable throughput capacity.
In the coming months, ASIC will release a consultation paper (CP) pertaining to the broader enhanced market structure. This CP will discuss, among other things, the issue of market makers in the cash equity products. We look forward to industry feedback to this CP when released in the next few months.
RCM’s Head of Asia Pacific Trading, Kent Rossiter, unmasks the Asian trading scene, sharing insights into how RCM navigates the unlit landscape, identifying the effects of dark liquidity and highlighting ways brokers can facilitate better buy-side decision making.
FIXGlobal: What are the main benefits of dark liquidity in Asia?
Kent Rossiter, RCM: One of the major challenges in Asia has always been accessing liquidity without other parties in the market taking advantage of your position and your need to complete the order. In cases where liquidity is scarce, knowledge that a relatively large order is being worked can expose investors to various risks. In such situations, it is advantageous for knowledge of the deal whilst it is being worked to be discreet until the order is filled. In dark pools run by brokers we can get priority on our orders through queue-jumping.
Dark pools support such an approach as they allow large block orders to be worked without showing size. In this way, trading in dark pools allows a trader to access a broker’s own internal order flow, without being gamed by the market that would otherwise risk non-fulfillment or less efficient pricing. As a result, size trading becomes the norm in dark pools and a trader gets to see blocks that may never have been available otherwise. With no information leakage we are not disadvantaged by the fading you see on lit venue quotes. From a personal perspective, the challenges that arise from dealing across a number of venues and the resulting increased use of technology make the role more exciting and satisfying.
FG: How do you limit information leakage in dark pools?
KR: With the exception of broker internalization engines, the trade sizes found in dark pools are often multiple of what they are on the exchange. So having fewer, but larger prints reduces information leakage, and in many cases we can get done on our size right away. Minimizing the number of times a print hits the tape reduces the chance of this footprint being picked up and working against the balance of your order. That said, broker internalization engines do their part well, keeping any spread savings among the two broker’s clients instead of giving it up to the general market.
FG: If you decide to seek dark liquidity, how do you decide between broker internalizers and block crossing networks?
KR: The type of dark venues being used for various trades (i.e. between block crossing networks and brokers) are different. As I mentioned, brokers for the most part are matching up little prints that otherwise would have been time-sliced in the general market, and when using these venues the goal is often to save a few basis points along the way while you work an order. You are not often micro-managing each fill, but through the process we are getting spread capture and price improvement. The type of stock you are often trading in these internalization engines are often larger, more liquid stocks; the type of orders often worked by algos.
Block crossing networks on the other hand, while still matching up electronically, are probably more confidential, and take up the function of what brokers still do upstairs - putting blocks together - so size is the real focus here. Both types of dark pools use the primary market for price sourcing since the vast majority of trades get printed at or within the best bid and offer. As the primary markets become too thin, it can cause price formation problems.
While it is not specific to the consideration of dark pools as an extra execution venue, we have to consider potential increased book out costs if we do use dark pools (except via aggregators, since we would only be using one counterparty), just as we have had to for years when deciding whether to execute a block with a single broker versus multiple counterparties. As dark pools proliferate there is an increased chance that we may not have part of our order in that pool at just the right time to take advantage of flow that may be parked there. Dark pool aggregators are aiming to provide the buy-side solutions to this.
RCM’s Head of Asia Pacific Trading, Kent Rossiter, points out some of the good and bad of Indian SOR and reflects on Hong Kong market structure.
Are Smart Order Routers (SORs) in India working well?
SORs sure are working in India. I am not sure what is more of a raging success in the Asian equity SOR world, India or Japan, but the cost savings estimate numbers we are hearing are evidence enough to suggest that Indian SOR development is a big plus.
For ages, there have been two meaningfully big markets; the Bombay Stock Exchange (BSE) and National Stock Exchange (NSE). Up until a year ago, when Securities and Exchange Board of India (SEBI) opened the playing field up, investors who wanted the liquidity of both had to do so by manually monitoring their screens. This was painfully labor intensive and with the thin displayed liquidity of bids and offers, difficult to actually execute. You would often find fills from one exchange or another being executed at inferior prices to the other as a dealer had their eyes off the ball. Those executions were inevitably followed by a conversation with a dozen excuses. I would be told what I was seeing on my screen was not the real situation, but a latency delayed picture.
For the most part we are only using brokers with SOR for our Indian executions, and these brokers co-locate servers so latency is no longer a concern. We are getting fills at the best prices available and from two pools of liquidity where we may have only had one in the past. Only if the order is really small would we limit ourselves to one exchange in an effort to save on ticketing charges.
SOR is just the most recent visible step in the broader trend of the evolution of markets. Accordingly, the buy-side and sell-side traders have to educate themselves and keep up.
What are the issues with Indian SOR?
It is the lack of interoperability at the post-trade clearing level that has limited the true savings many investors would have benefited from otherwise. This is a challenge that SEBI continues to address. The lack a central clearing counterparty for the NSE and the BSE causes settlement costs to be about twice what they would be if only one exchange were used, and this is a consideration for most institutions when deciding whether or not to use two exchanges. If the exchanges and SEBI could reach a solution in terms of interoperability arrangements for SORs, the cost savings and benefits of SOR usage could be passed to the end users. Until then, its true potential remains yet to be uncovered.
Put three men and a FIXGlobal’s Edward Mangles around a table; serve them lunch and let the tapes roll. FIXGlobal listened in on a conversation that ranged from regulators to risk and from FX to FIX.
Edward: In defense of the regulator … how should they know what’s going on when neither the sell nor buy-side seem to know?
Vincent: Recent events have shown the divide between the financial market participants and the regulator. For example, the Lehman’s mini bond issue has forced a strong dialogue between the regulator and, in particular, the broker side. But the engagement is slow.
Kent: Retail brokers tend to have a strong voice here in Hong Kong and over the years have developed a strong working relationship with the regulators. Local brokers can at times be pretty outspoken and have proven on many occasions to be an effective lobbying group. From our perspective international brokers tend to be less visible in some of these debates. We see certain common characteristics across Asia where understandably there is a good deal of focus on protecting the retail investor given the high retail investor participation in many of the stock markets in Asia including Taiwan and Korea. The challenge has certainly been in the retail space where there is an overlap of regulatory responsibility in approving and offering products.
Edward: Are we asking the impossible of the regulator to create the same rule book for retail and institutional investors?
Kent: The general principal is that retail investors are less savvy and experienced and regulations need to be explicit. There is a general assumption that as professional investors, institutions can operate with greater flexibility since they can understand the risks in a more sophisticated way. Taking account of this framework then it will not be possible to standardize for both types of investor. The risk is that setting minimum requirements to protect the retail investor may not suit the way business is transacted at an institutional level. Here we advocate consultation and support stronger trade associations.
Vincent: I don’t think you can realistically expect the same regulations for retail traders as for big institutional investors. That’s a utopia that’s never going to exist. These two groups of investors have different needs. Many regulators – in Europe for example and Luxembourg in particular with their efforts to push through the UCITS 4 protocol – understand that you need different protocols for retail investors.
Kent: But Vincent, every investor has the same goal: making money. It’s only the detailed requirements that are different.
Gerry: There’s certainly a larger burden on the big firms to uphold ethical, legal and fiduciary standards.
Kent: Yes. Retail investors don’t generally have the same constraints on their activities. Institutional investors need a more developed investment process and must ensure fair treatment across all clients regardless of size and fees. Institutional investors will undoubtedly be looking at different investor objectives – for one, they need to be able to implement their strategies in much greater volumes, and in scale, for example.
Edward: How about the role of regulators in curtailing short-selling in many markets? Knee jerk or long-term strategy?
Kent: I’d like to see the ability to short-sell fully resumed as soon as practically possible. We’re now in a situation where some markets have suspended it, and some are allowing it again. This is not ideal. I certainly see the temporary prohibition as a knee-jerk reaction and understandable given the groundswell of public opinion and corporate pressure as the financial crisis took hold – not all of this opinion was entirely rational. In fact, short-selling restrictions can reduce volumes for trading in the markets overall. For one, we have a 130-30 fund. So in this fund, if we’re limited in the number of attractive long-short pair trades we can put on then we’ll just end up trading less. So it’s business that never happens and the unknown would-be client on the other side of our trade – whether they’re institutional or retail – through the exchange, never gets to take advantage of the liquidity. What we need is a greater understanding of how shorting operates. There is a lot of misconception around this issue.
Gerry: I see the value and merit in allowing short selling in varied markets. In markets that don’t allow it, the regulators need to develop this functionality. It encourages more liquidity and volume. But I do understand that in the current environment the regulators have little choice. We won’t know the full impact until later on.
Vincent: The problem is that there’s no consistency among the regulators. Some only forbid short selling on financials. It’s a disruption to competitiveness between various sectors.
Kent: Yes. And not being able to short, will reduce derivatives trading. The fact is, a lot of the shorting that goes on isn’t just one-way, but a strategy with a ‘long’ component to it as well. And funds that relied on the little performance boost from securities lending fees have also seen their returns diminished. The equity finance desks at the brokers have seen a real drop-off in trade volumes because of this.
Vincent: Now the regulators are trying to encourage investors to buy again in a bear market – and there’s a lot of inconsistency between the messages they’re sending now and what they were telling us six months ago.