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Tim Quast
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We're All HFTs Now

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September 9, 2009

LSE Bets Against Maker-Taker

By Nina Mehta

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  • LSE Bets Against Maker-Taker

Is it a step forward or backward? The London Stock Exchange this month ends its year-long experiment in paying market participants for providing liquidity and charging them for taking it. It goes back to its standard formula of charging both suppliers and takers.

The LSE switched to a maker-taker scheme last September because it hoped to draw more flow from high-frequency trading firms that provide a lot of liquidity. It went back to doing things the old-fashioned way because, it said, it wanted to reward its largest customers for their business.

The decision, seen as a bold move by some and as a return to old habits by others, runs counter to the trend in European market centers. It also bucks the norm in the U.S. The LSE, however, has the largest share of the market in the securities it trades.

"We're trying to ensure we have a differentiated approach that's customer-focused and that extends greater awards to our largest customers, the more they trade," said Patrick Humphris, a spokesman for the LSE. With competition among market centers heating up, the exchange is aiming to attract more volume from its biggest customers by enabling them to decrease their trading costs.

Citi is one firm that will see its costs shrink. "Overall, we'll pay less to the LSE," said Jack Vensel, head of electronic trading at Citi in London. "But it seems like a step backward. The industry is progressing to a maker-taker model. [The LSE] may be giving up some opportunity to use pricing to motivate their members to behave in specific ways."

Vensel noted that brokers nowadays have less discretion about where to send customer flow, given the fragmentation in European trading, the rise of smart-order routing and the need to pursue best execution.

"Pricing alone right now in this marketplace isn't enough to move people to or from the LSE or another venue," Vensel said. "As more people have the option to use smart-order routing, it will be increasingly difficult for the LSE to hold on to its market share." He added that 100 percent of people without smart-order routing go to the incumbent exchange. With access to more venues, he said, more flow will go to the newer markets.

Another electronic trading executive at a global broker-dealer in London agreed. "Hedge funds or proprietary trading shops doing automated market making or running an arbitrage or high-frequency strategy may be more price-sensitive," he said. "Their behavior will be more influenced by price than the behavior of a large bank with a diverse client base."

Still, this executive is withholding judgment on the LSE's move. "It's a risky strategy the LSE has deployed," he said. "We applaud it; it's gutsy. They've said their core customers are traditional customers, but it remains to be seen whether it will be successful from a liquidity and market-share perspective."

The LSE said it isn't forsaking highly automated trading shops. "We expect high-frequency traders will continue to use the LSE, partly as a result of the lower liquidity-taking pricing schemes and the execution certainty on our market, and partly because we remain the price-formation venue in the U.K.," the LSE's Humphris said.