Marco Lutat

The Effect of Maker-Taker Pricing on Market Liquidity in Electronic Trading Systems – Empirical Evidence from European Equity Trading

European equity trading mainly takes place in electronic order-driven systems. In those systems two groups of traders post their orders. One group makes liquidity by submitting limit orders while the other takes liquidity by submitting market orders. A high degree of liquidity is widely seen as the most important criterion for a market’s quality and efficiency. The introduction of the Markets in Financial Instruments Directive led to the emergence of new trading venues across Europe. Those venues prefer traders making liquidity by the fees they charge in order to improve liquidity and attract market share from established exchanges. This is referred to as maker-taker pricing. Although controversial and not proven if it is advisable for an established exchange to do the same, some exchanges also introduced maker-taker pricing against the background of that new competition. In this paper we will empirically investigate the introduction of maker-taker pricing by the SWX Europe Exchange and its impact on market liquidity by means of an event study methodology. Our findings suggest that maker-taker pricing does not affect spreads, but leads to an increase in the number of shares quoted at the top of the order book.

The Effect of Single-Stock Circuit Breakers on the Quality of Fragmented Markets

Since the May 6th, 2010 flash crash in the U.S., appropriate measures ensuring safe, fair and reliable markets become more relevant from the perspective of investors and regulators. Circuit breakers in various forms are already implemented for individual markets to ensure price continuity and prevent potential market failure and crash scenarios. However, coordinated inter-market safeguards have hardly been adopted, but are considered essential in a fragmented environment to prevent situations, where main markets halt trading but stock prices continue to decline as traders migrate to satellite markets. The objective of this paper is to empirically study the impact of circuit breakers in a single-market and inter-market setup. We find a decline in market volatility after the trading halt in the home and satellite market which come at the cost of higher spreads. Moreover, the satellite market’s quality and price discovery during CBs is weakened and only recovers as the other market restarts trading.

Shedding Light on the Dark: OTC Equities Trading in Europe

The key idea ofMiFID was to establish a comprehensive regulatory regime governing trading in financial instruments in order to promote market efficiency,market integrity, fairness, and competition among various forms of trading mechanisms and venues.Three years after the implementation of MiFID, the reality of European markets reveals that the competition between regulated markets and the newly emerged MTFs works in favor of investors and has improved market quality. In this article, the authors compare the objectives and spirit of MiFID to the status quo and evolution of European equity trading with a specific focus on the role of OTC trading. Their findings contribute to the current industry and regulatory discussion. The authors provide proposals for possible future regulatory adaptations and enhancements.

Smart Order Routing Technology in the New European Equity Trading Landscape

In Europe, fragmentation of execution venues has been triggered by increasing competition among markets and a new regulatory environment set up by MiFID. Against this background, IT-based sophisticated order routing systems (Smart Order Routing systems) promise to assure efficiency despite fragmented markets. This raises the question on the relevance and economic value of this technology in European equity trading. Based on order book data for EURO STOXX 50 securities of ten European electronic execution venues, this paper assesses the potential of Smart Order Routing technology by measuring the performance of actual executions in European order book trading relative to a Smart Order Router implementation that detects and accesses best European prices. We identify 6.71% full trade troughs and 6.45% partial trade-throughs in our dataset enabling for significant absolute and relative savings. This indicates that Smart Order Routing technology can provide business value by improving order executions in European cross-tradable equities.

The Impact of New Execution Venues on European Equity Markets’ Liquidity - The Case of Chi-X

With the Markets in Financial Instruments Directive in effect since November 2007, new trading venues have emerged in European equities trading, among them Chi-X. This paper analyzes the impact of this new market entrant on the home market as well as on consolidated liquidity of French blue chip equities, newly tradable on Chi-X. Our findings suggest that owing to this new competition the home market’s liquidity has enhanced. This is apparently due to the battle for order flow which results in narrower spreads and increased market depth. These results imply that overall liquidity in a virtually consolidated order book is in the French case higher than without the new competitor.

Applying Pricing Engineering for Electronic Financial Markets

Due to the demutualization of exchanges, the business case of operating an electronic financial market has become even more important. Specifically, it is vital to design pricing incentives for the provision of order flow and thereby to assure market liquidity. The paper will introduce the concept of pricing engineering for electronic financial markets. Based on an analysis of environmental factors and the objectives of the market operator, a focus will be laid on the implementation of fee structures that include liquidity incentives. The concepts were implemented in the context of a new electronic market, the Dubai International Financial Exchange (DIFX). The project will be described as a case study for the practical realization of the pricing engineering approach.

Capital Markets in the Gulf: International Access, Electronic Trading and Regulation

In 1981, the Gulf Cooperating Council (GCC) was formed by six Arabic countries: Kuwait, Bahrain, Qatar, Saudi Arabia, Oman and the United Arab Emirates (UAE). The GCC aims to promote cooperation between its member states, mainly in the fields of economy and industry. So far, the GCC has succeeded in a number of areas. Citizens of GCC countries can move freely amongst the six countries without the need for visas and there are no customs duty within the GCC (but only on products made within the GCC). More significantly, there is freedom for professionals of one GCC state to work in another since then. Members of the GCC group of nations are also allowed to own shares in the companies that operate within that group.

A Methodology to Assess the Benefits of Smart Order Routing

Smart Order Routing technology promises to improve the efficiency of the securities trading value chain by selecting most favourable execution prices among fragmented markets. To measure the extent of sub-optimal order executions in Europe we develop a simulation framework which includes explicit costs associated with switching to a different market. By analysing historical order book data for EURO STOXX 50 securities across ten European lectronic markets we highlight an economically relevant potential of Smart Order Routing to improve the trading process on a gross basis. After the inclusion of switching costs (net basis), the realisability of this value potential depends on whether the user can directly access post-trading infrastructure of foreign markets or has to make use of intermediaries’ services.

Flexible VWAP Executions in Electronic Trading

For the execution of large equity orders, institutional investors often use the Volume Weighted Average Price (VWAP) as a benchmark to measure execution quality. To achieve this, they have the possibility to either cross their orders in a non-intermediated electronic system or to submit a VWAP agency order to a broker that executes the orders manually. Though more expensive in explicit costs, in particular due to higher flexibility, agency VWAP is still more attractive to investors than VWAP crossings. This work proposes a new electronic crossing model addressing and solving the flexibility restrictions present in today’s VWAP crossing.