Lighting the Asian Dark Pools – Competition or co-operation? David or Goliath? Alternative or traditional?
By Backy Merrett
Has the industry found its latest villain in the form of dark pools? Not so, argued a group of traditional and alternative trading venue operators over dinner in Singapore last week. Dark pools are nothing new; they’re just finding their feet in Asia’s rugged exchange landscape. FIXGlobal’s Becky Merrett took a look at developments in the industry.
Caught in the middle of a seasonal Singapore early evening downpour, a group of regional specialists make the dash from their taxis to the warmth of an Italian restaurant. The roll-call reads like the Who’s Who of trade execution – Singapore Exchange (or SGX as it is most commonly known), BlocSec, Liquidnet, Chi-X, ITG, Bank of America Merrill Lynch and Credit Suisse. Have dark pools taken over from hedge funds as the baddie-du-jour in Asia? Should dark pools and exchanges compete, cooperate or co-exist?
Before the first cork was pulled opinions were flying, fuelled by the discussion’s volunteer ‘devil’s advocate’ in the form of Credit Suisse’s James Rae, (also Co-Chair of the FPL Singapore Working Group). “What is the purpose of a dark pool versus a traditional exchange? Why do we need alternative venues in Asia? And how do they interchange?” he asked.
“Dark pools have been around for a number of years,” argued Bank of America Merrill Lynch’s Mark Wheatley, fresh off a plane from Japan. “They’re not new in Asia. It’s mostly an extension of the internal broker systems. The alternative trading systems (ATS) we see now in Asia is the industry responding to the demands of their clients by creating a more formalised system.”
Discussing whether ATS should or not should not exist was pointless it seemed, as I toyed with my antipasti. “These are market and client-driven initiatives. All markets evolve, and financial markets evolve faster than most. To try and back track is both unwanted and unwarranted. Judging from the response from the markets in the US and Europe, ATS are here to stay,” Chi-X’s Rob Rooks stated emphatically.
Competitors or complementary?
Before the starters were finished, we’d killed the notion that ATS were going to slip quietly away into the night. Instead the conversation turned to the respective roles of traditional exchanges versus off-exchange platforms.
Liquidnet’s Greg Henry weighed in. “An exchange is about price discovery, it’s about listing and taking companies to market. Our focus is on efficiency, latency, liquidity and best execution.”
Unsurprisingly, it was a common view among the alternative venues around the table. Trading activity on the NYSE, they argued, now accounted for less than 30 percent of revenue. The role of traditional exchanges was increasingly focused on listing and sourcing capital. “The stringent regulations on listing, the information required, it provides a comfort blanket for investors,” Henry argued.
“At the end of the day, we all have to create the structure that works for our clients,” Henry concluded.
The right structure for your client? It was a theme that emerged again and again over the evening. The overriding – although not unanimous – feeling was that dark pools catered for one kind of investor, while exchanges provided security and solace for others.
“We don’t want to list organisations. The compliance involved in the process doesn’t fit with our business model. We’re more interested in a symbiotic relationship between ATS and exchanges. We attract different investors with different strategies. The investors trading through our venue are more likely than not to only hold a position for 10 minutes or less,” explained Rooks.
It was time for our lone exchange operator to pitch in. “We’re comfortable with the competition. Although, if we see a proliferation of venues, such as we’ve seen in the US, this is not going to help the region,” said SGX’s Bob Caisley. “We feel that the best way to move forward is to understand what dark pools offer and to let our clients access this technology,” he added.
It was an understandable position, given the recent announcement of a joint venture between SGX and multilateral-trading facility, Chi-X. The deal, which was inked in August, is aiming to launch its Chi-East non-displayed liquidity pool by June 2010. Clearly the move has raised the stakes as it is the first time in Asia that a dark pool has the backing of a regional exchange.
Can Asia do it better?
So would the Chi-East venture act as a catalyst for the region, Rae asked. And was Asia in a position to learn from the experience in Europe and the US?
The consensus was that Asia had its advantages and disadvantages. “The multi-market, multi-regulatory environment makes the likelihood of a RegNMS or MiFID a pipe dream. But regional markets can benefit massively from tracking what’s going on in the US and Europe and then picking what works best,” said ITG’s Perry Pritchard.
“It’s true that while the US and Europe have had to pass through a number of stages over a period of decades to reach the market maturity they have today, Asia can go from step one to step five in one stride,” explained BlocSec’s Christian Chan.
Caisley agreed, but cautioned against looking at Asia as a single proposition. “We can’t talk about Asia as a single region. There are, at best, six markets that have anywhere near the kind of regulatory and financial maturity to look at dark pools.”
Singapore – a catalyst for change?
While Singapore may have taken the plunge, around the table there seemed general agreement that other exchanges were likely to take a wait and see approach. “We know that other exchanges in the region will be keeping a close eye on how this pans out,” said Henry. “The regulators will also been tracking the Singapore experience, both to look at what works and what doesn’t,” he added.
“For dark pools to gain any kind of traction, we all need to focus on the key markets,” said Pritchard, “and we need to be engaging in a two-way discussion, with the regulators.”
“You can bet that Hong Kong and Australia will be paying particular attention. While they are very different markets, they both have near-monopolistic exchanges and stringent regulators, who are keen to protect retail investors,” Henry added.
For Singapore, the SGX / Chi-X joint venture sees them stealing some of the Hong Kong ‘regional financial hub’ glitter, as they position themselves as a market leader and a catalyst for change. “We’re also in discussion with other ASEAN exchanges about an ASEAN linkage,” said Caisley.
Co-operation – the stronger option
“This is what institutional investors want, and we need to listen to our market investors. It doesn’t pay to be competitors. Co-operation has to be a stronger option,” said Rooks. “But we’re in a fast moving industry, working with intelligent people who are constantly looking around the next corner. We have to innovate and we need the regulators to keep track of what the market expects.”
The technology infrastructures in different regions also needed to keep pace, Rooks argued. “Clearly our business model relies on a strong connectivity infrastructure,” said Rooks. “We want to work with the regulators to help free up the exchanges from much of the technology burden and work with solution specialists to enhance the connectivity infrastructure.”
The subject of competition versus co-operation reared its head throughout the dinner. One minute the view was that the two trading venues offered different services to increasingly different clients, while in the next, the future was heading for, what all around the table acknowledged to be, a battle for revenue.
“Exchanges as much as dark pools are revenue centres. This is a rapidly changing industry and we all need to stay focused on what our clients want. From our perspective, the SGX joint venture is our way of responding to the market,” said Rooks.
As the coffee arrived and the evening drew to a close, there was consensus that the relationships between the Asian exchanges and alternative venues will increasingly be defined by neither pure competition, nor pure co-operation, but a healthy mixture of both. Judging from the conversation over dinner that evening, whatever the relationships and ongoing debates in Asia, they will clearly be very lively.
Chi-X/SGX secure leading clearing house for Asia JV
Our convivial dinner was followed the day after by the announcement at TradeTech Asia 2009, from Chi-East, the joint venture between Chi-X Global and the Singapore Stock Exchange that it would be using the strongly capitalised LCH.Clearnet as its central clearing facility.
Once the regulatory hurdles have been cleared, the service will allow for Australian, Hong Kong and Japanlisted securities to trade on Chi-East. The move also marks LCH’s first major foray into Asia, a market that the London-based clearing house has been eyeing for sometime.
“We are confident that LCH.Clearnet will assist us in helping to lower the overall frictional cost of trading within the region. This relationship ensures Chi-East will have robust, reliable and integrated architecture through all stages of the trade,” explained Chi-East director, John Lowrey.