Almost half (49%) of traders claim that the Financial Conduct Authority’s (FCA) post-Brexit ESMA decision to remove double volume caps (DVCs) will have little impact on dark trading, according to recent survey findings by SIX Swiss Exchange.
The FCA decision was aimed at controlling the amount of equity trading which takes place away from public exchanges, however, Tony Shaw, executive director and head of sales, UK & Ireland at SIX Swiss Exchange, explained: “Traders seem agnostic as to whether the double volume caps are in place or not, regardless of the political rhetoric.”
He further highlighted that mechanisms – for closing auctions, systematic internalisers (SIs), block trading venues, periodic auctions – were in place even prior to Brexit in a bid to address the market demand for dark trading.
See more: The TRADE dark trading documentary series
The FCA’s stance on dark trading follows on from its previous findings back in 2021, which at the time contradicted similar research from the EU. The EU has previously made efforts to restrict trading in dark pools to increase activity that occurs on pre-trade transparent or ‘lit’ venues, introducing double volume caps in 2018 under Mifid II, triggering bans on dark trading when a transaction reached a certain size.
The European Securities and Markets Authority (ESMA) previously stated in a review of Mifid II that the DVCs have had a limited, but overall positive effect on market liquidity.
Market participants, however, have continually been vocal with criticisms on the move by regulators in Europe to curb dark trading, claiming that the practice allows for minimal market impact and often the best price for clients.
Read more: Trading in dark pools and periodic auctions lowers execution costs, FCA paper concludes
Overall survey findings from SIX, which included responses from 2,000 European traders, confirmed that these individuals are seeing equity trading shift towards alternative trading mechanisms as concerns around liquidity persist.
Around half of respondents (47%) pinpointed lack of available liquidity as the biggest trading challenge – followed by 24% which highlighted volatility.
SIX Swiss Exchange highlighted that trading venues are a viable alternate execution choice amid liquidity worries.
Speaking to The TRADE, Shaw explained: “This year we’ve increasingly seen large volumes of trading activity being carried out on closing auctions. In a market landscape where liquidity is proving harder to find, the ability to execute large orders, at the closing price and during a time when the market is focused on a single trading event at the end of the day, is in strong demand. Exchanges need to factor this in when considering the ways in which they can assist market participants.”
The survey found that decreasing liquidity in continuous on-exchange trading is most likely to flow into dark pools and closing auctions, with 31% and 27% of respondents highlighting each respectively.
Shaw said: “As liquidity shifts away from continuous lit trading, exchanges need to innovate to offer members additional solutions. Our non-displayed pool Swiss-At-Mid that includes block functionality, our additional session Trading-At-Last, and our Auction Volume Discovery order type all satisfy the traders’ increasing need for flexibility and have all seen growth since their respective launches.
“Volume attracts volume when it comes to European equity markets. As a single event which the entire market is focused on, end of day auctions increase the chances of traders finding much sought-after liquidity,” Shaw added. “Our most recent innovation, AVD functionality, helps to stitch sidelined liquidity together and bring it back onto the exchange.”
Read more: SIX expands closing auction offering to protect buy-side when executing large orders
Elsewhere, the findings suggested that trading activity is shifting away from exchanges, with 15% of traders suggesting moves to SIs, and 14% highlighting OTC markets.
Addressing the current state of play, Shaw highlighted that the most important aspect is the existence of a level playing field: “Alternative mechanisms facilitate different types of interactions for a kaleidoscope of different objectives, but if it’s completely to the detriment of public orderbooks, that’s not helpful either. Fair and transparent price formation remain the lifeblood of liquid markets.”