The current U.S. equity market structure is truly a conundrum – with one large brokerage expecting both more fragmentation among trading venues and yet more consolidation.
How can that be?
In its Market Outlook, Credit Suisse analysts wrote that 2016 would be an interesting year for trading venues as the buyside continues its search for liquidity and one of the challenges it faces is the growing number of trading venues. At one point in 2014, the broker noted there were as many as 13 exchanges and 93 registered ATSs (note that more than half of those ATSs are not actually operational) in the marketplace.
The upside to this, Credit Suisse said, was that fragmentation creates redundancy and eliminates the single point of failure problem that plagues many less developed markets. For example, in July 2015, the NYSE was down for hours yet trading continued uninterrupted.
Yet, having so many venues undeniably creates challenges in finding liquidity and understanding routing decisions, to say nothing of the technological complexity, the broker also added.
In looking at the tea leaves, Credit Suisse said that there are signs that point to both more fragmentation (in exchanges), as well as consolidation (in ATSs) in the year to come.
On the exchange side, we started 2015 with 11 venues. Within the past few months, NSX went live (reviving an existing exchange license that has lain dormant since they last closed down in 2014), and the dark pool IEX submitted a request to the SEC to become an exchange, Credit Suisse wrote. On the other hand, while the number of registered ATSs hasnt changed much over the last year, we have seen a consolidation of sorts as the market share of the top 5 venues has increased from around 42% at the start of 2015 to 52% as we enter 2016.
The analysts added that It will be interesting to follow if this concentrates even further now that there is a renewed focus on transparency from the SEC and the industry.
As proof, the bank pointed to the fact that last November, the SEC unanimously approved a proposed rule (now open for public comment) that will require ATSs to publicly post enhanced details about how their pools operate (information contained on the registration Form ATS), that had previously been private. Also, the regulator is also calling for a revised form, ATS-N, that will enhance the disclosures.
Furthermore, Credit Suisse said that changes to maker-taker pricing rules could affect number of exchanges. In the current pricing schema, each of the large exchange groups (NYSE, Nasdaq, and BATS) has at least 3 venues and the primary (if not the sole) reason for having multiple venues is to offer different pricing schemes.
It seems unlikely, however, that any potential pricing changes would have implications on the number of exchanges this year, they wrote.