A Welcome Note from Natan Tiefenbrun, Cboe’s Head of European Equities

September 1, 2021

Natan Tiefenbrun, Head of European Equities, recently wrote a note to clients about his priorities after three months with Cboe. Read his note below.

I’m now approaching three months as Cboe’s Head of European Equities and as we all return to work after the summer - hopefully well rested - I thought it would be a good time to write with my first impressions and early priorities.

The following topics are covered within this email:

1.      First Impressions

2.      Early Priorities – Lit Order Books and Cboe LIS

3.      Market Resilience and a European Consolidated Tape

4.      Regulation and a Call to Action on Periodic Auctions

5.      Final Thoughts

6.      What Next

If you only read one part of this email – please make it #4 on the list above.

1.      First Impressions

I’ve spent a lot of my time so far with many of you – our valued customers. These conversations have been crucial to better understand your needs and how Cboe can deliver a best-in-class service to meet those needs.

It has made clear our role as the leading pan-European exchange operator: To provide thought leadership on key market structure issues and deliver innovative solutions and data that make European markets more efficient and more liquid, for the benefit of investors, issuers and intermediaries.

With Brexit and MiFID II implementation projects mostly behind us – and the huge amount of work each entailed for the industry as a whole – all the Cboe team is excited to focus all our energies on doing just those things.

2.      Early Priorities

a)     Lit Order Books

The speed and orderly fashion in which liquidity in EU instruments migrated to EU venues has been testament to the industry’s collective preparation. Since that near-overnight movement of liquidity, we’ve also been encouraged by the gradual growth in our DXE (European lit book) market share from 16.72% at the beginning of the year to 18.21% in August, and by the speed with which members resumed Swiss trading on our UK venues. Going forward, our focus will be on improving participants’ trading outcomes – with a particular focus on driving higher certainty of execution – a topic you can expect to hear from us on in the future.

 b)     Cboe LIS & Directed IOIs

Although Cboe was a relatively late entrant to the block-trading space, our partnership with (and eventual acquisition of) BIDS allowed us to supercharge our Cboe LIS offering.

We’ve enjoyed great momentum this year, and we’re delighted to share that in August, for the first time ever, Cboe LIS was the largest European block trading venue. I would like to say thank you, on behalf of the whole Cboe team, to our buyside and sellside clients for helping us achieve these milestones during August (per BigXYT and Bloomberg data):

  • #1 Market Share - we traded more above-LIS volume/notional than any other conditional block venue (30.6% market share)
  • #1 Trade Size - we had a higher average trade value than any other conditional block venue (€835,857)
  • #1 Above-LIS trade count – we traded more >LIS trades than any other conditional block venue (8,151 executions)
  • #1 Largest Single Trade – we traded the largest single trade of any conditional block venue (€72.3mn of Amadeus IT Group SA, 17 August)

In keeping with our innovative ethos, July also saw the introduction of our Directed-IOI service, which allows brokers to use the LIS buyside network to deliver high-touch liquidity to clients with a live contra-order. It brings advantages both to brokers (more secure targeting of IOIs) and to the buyside (access to unique liquidity through a trusted and efficient workflow).

Having piloted with UK buyside clients, we’ll be adding EU and US buyside clients in the weeks ahead. We hope that, by allowing the industry to leverage the LIS/BIDS network we have built, we can help brokers and investors unlock more efficiencies, and offer a more secure and hygienic model for searching for a high touch contra.

3.      Market Resilience and a European Consolidated Tape

We know that there’s frustration amongst both buyside and sellside firms that European equity markets are not as resilient as US markets to (inevitable) exchange outages.  

We published a paper on this topic in spring of this year, in response to which we received lots of constructive feedback.

We’ve since worked on updating that paper, and we anticipate publishing a significantly revised version later this month. It is full of specific recommendations – a clear playbook on how to improve market resilience – for stakeholders including exchanges, brokers, policy makers and index issuers.

It also makes clear our support for a Consolidated Tape (CT) – which we believe would improve the resilience of European markets by reducing (over-)dependency on the Listing market for key “market status” information.

Do let us know if you want to receive a copy.

4.      Regulation and A Call to Action on Periodic Auctions

As you know, we take our role in advocating for competitive, fair and transparent markets seriously. The UK Treasury launched its Wholesale Market Review (WMR) on 1 July 2021 with a response deadline of September 24th and we were encouraged by many the proposals, including:

  • the need for a Consolidated Tape, and specific measures to encourage its introduction that could also be applicable in an EU context;
  • proposals to improve the resiliency of markets;
  • changes to reference price waiver venues, including repealing the double volume cap regime and placing less reliance on primary/listing venues as the reference point

ESMA’s consultation on RTS 1 and 2, published on 9 July, was more concerning, particularly with regard to “Frequent Batch Auctions” (also known as “FBAs”, or “periodic auctions”), discussed below.

A Very Brief History of Periodic Auctions / FBAs

  • Cboe operates the largest periodic auction in Europe, an innovation we pioneered in close consultation with market participants and regulators, based on the clear and understandable transparency regime that RTS 1 provides for auction mechanisms.
  • ESMA reviewed this market model in 2019, receiving a large amount of feedback from a broad range of market participants. On that basis, ESMA concluded that minor enhancements were required to ensure periodic auctions are appropriately transparent and sufficiently price-forming.
  • Having only recently implemented these changes, ESMA is consulting again on further changes to periodic auctions that, we believe, will be harmful to investors.

Why are Periodic Auctions Popular with Brokers and Investors?

Due to the interconnected and continuous nature of financial markets, there is an inherent advantage to having the fastest possible data, technology and connectivity. Whilst only a tiny minority of market participants are able to invest sufficiently and compete to be amongst the very fastest;

  • On the positive side, that minority makes markets more efficient and liquid for everyone, arbitraging away inefficiencies, porting liquidity across asset classes, keeping the prices of correlated assets aligned.
  • On the negative side, those who cannot compete on speed may be disadvantaged when trading in continuous limit order books (CLOBs) that necessarily reward the fastest participants.

Unlike CLOBs, periodic auctions (as currently implemented) confer no advantages to participants based on their speed.

  • Their periodic nature, randomised end-time, and (in some cases) size priority eliminate any speed advantage one participant (or intermediary) might have over another.
  • The existing pre-trade transparency, where only the equilibrium indicative price and equilibrium indicative volume are published, is sufficient to inform market participants of the potential to trade at/near that price, and to attract additional price-forming participation, but crucially does not reveal exploitable information about any disequilibrium.
  • This makes periodic auctions a more level playing field for institutional investors accessing the market through (still fast, but relatively slower) broker algorithms and smart routers.
  • By opting out of the speed race, patient investors can interact with one another.

This level playing field is evident in highly distinctive and favourable "mark out" statistics, which measure the price-stability and potential for adverse price movements in the seconds and milliseconds before and after trading - institutional investors are much more likely to be able to trade at a fair and stable price in an FBA than in a continuous order book.

Cboe NL, Euronext and Xetra, Pre- and Post-Trade Price Movement in Bps (July 2021)

Source: BigXYT

In short, FBAs strengthen investor protection and lower implicit trading costs in European markets by allowing patient investors to interact with one another in a fair manner.

Crucially, FBAs operate alongside Continuous trading – and (though publication of indicative price and volume alongside the BBO of continuous venues) provide complementary input into price-formation. By contrast, Closing Auctions take place once continuous trading has ceased, and represent the only source of pre-trade transparency at that time. This completely undermines the notion that, for the benefit of investors, FBAs ought to offer more pre-trade transparency than is required of Closing Auctions.

What would be the impact of the additional pre-trade transparency proposed by ESMA?

  • Each of ESMA’s proposals; making orders transparent prior to a match being identified – either through full order book disclosure or through the publication of best available price and volume -  and making an imbalance quantity public during the course of an auction, would provide sufficient data to enable exploitation of institutional interest by those capable of racing ahead in continuous markets – reintroducing the advantages (to some) and disadvantages (to the rest) of speed.
  • Reintroducing speed as a factor would immediately eliminate the current pre- and post-trade price stability (lower mark-outs) that attracts customers and liquidity to periodic auctions. Investors and intermediaries would lose a valuable EU-based trading mechanism that demonstrably reduces their implicit trading costs.
  • Whilst non-EU investors (who we estimate represent >70% of buyside activity in EU markets) might simply re-direct their liquidity to UK-based periodic platforms, EU investors would be denied access to such platforms by the Share Trading Obligation. These changes, if implemented, could simultaneously drive valuable liquidity in EU stocks (from non-EU investors) offshore, and punish EU investors by denying them access to a trading mechanism designed for their benefit.

What should you do?

It’s important that investors, intermediaries and market operators communicate via responses to the consultation that pre-trade transparency must be calibrated to balance investor protection with public price formation:

  • In the case of periodic auctions, ESMA already achieved a well-calibrated balance with its previous changes. There is no sound basis on which to revisit the topic.
  • Changes of the kind proposed will re-introduce the advantages/disadvantages of speed, thereby undermining the benefits that periodic auction venues have brought to the market.

You should ensure that your firm is responding to the FBA questions in the ESMA consultation (questions 4 and 5) before the October 1 deadline – not only indirectly through your trade association, but also directly in your own firm’s name.

Ahead of the consultation deadline, you could contact ESMA directly and request a call/meeting to discuss the topic.

5.      Final Thoughts

MiFID I introduced competitive exchange trading and clearing interoperability in Europe, spurring competition on services and on transaction fees. Then MiFID II sought, amongst other objectives, to calibrate the transparency regime to ensure a level playing field between different on- and off-exchange models.

Yet at times it feels as though this commitment to competition is only skin-deep. Scratch below the surface, and too many actors are seeking to limit or erode competition.

Whilst there are plenty of complexities and nuances to debate, we believe that the introduction of a real-time pre- and post-trade consolidated tape is the missing piece in our European jigsaw – one that will provide data, clarity and confidence in our competitive market structure.

6.      What Next

With our recent acquisition of Chi-X Asia-Pacific, which include venues in Australia and Japan, Cboe is the only stock exchange operator present in every market worldwide that permits competitive trading. From that unique vantage point we will look to:

  • Leverage our global buyside and sellside client network to enhance access to liquidity
  • Leverage our technology to bring innovations from one region to another
  • Compare the features of different regulatory regimes, and the outcomes they generate, and facilitate discussion around areas for development in each region

In Europe specifically, over the next weeks and months you can expect to hear from us on the following cash equities topics, seeking your feedback on how to make markets better:

  • A playbook for improving Market Resilience
  • Enhancements to our Periodic Auction service
  • The expansion of Cboe LIS/BIDS to additional client and instrument geographies

Please don’t hesitate to get in touch to discuss any of these topics with me or the rest of the team.