One year on from the implementation of MiFID II, the objective of this report is to inform the debate on the design of equity trading markets in Europe – in particular, market data services – by providing an economic analysis of the role of the price formation process, the impact of regulatory change and the value chain for market data services.

The Cologne Institute for Economic Research published the first part of an independent study commissioned by DBG in June 2016. The study from Prof. Dr. Hüther and Dr. Demary is the first part of a series consisting of three studies on economic effects of the purposed merger of Deutsche Börse and London Stock Exchange.

Regulatory constraints and the capital, funding and cost pressures that subsequently result continue to force banks to re-engineer their business models. While trading and clearing operations are being actively restructured, banks are missing out on untapped optimisation opportunities in the post-trade area, particularly in the highly fragmented European market.

The European Central Bank’s TARGET2-Securities (T2S) initiative is addressing this fragmentation. T2S will trigger fundamental changes in the post-trade landscape, far beyond the initial scope of pan-European settlement in central bank money. These changes will enable cost efficiencies which banks must consider to support their cost saving agendas and stay competitive with other market players. T2S will enable banks to reap significant benefits from consolidating assets and the direct access to and use of central bank money.

These efficiencies will play an important role in unleashing the wider macroeconomic benefits from integrating European securities markets, building on the creation of the joint interbank payment system TARGET2.

T2S will go live in 2015 with four major on-boarding phases (“waves”) for the participating central securities depositories (CSDs) from June 2015 to February 2017, with the majority of the volume being migrated in 2016, soon bringing benefits for early adopters. Institutions that delay a proactive T2S strategy risk being hindered by their current providers and losing their competitive edge as savings accrue to first-movers. Banks should act now – or they risk missing out on the T2S opportunity.

This study focuses on the T2S benefits that banks can unlock by consolidating their securities and cash holdings in Europe directly on CSDs and central banks, thereby allowing them to:

1. reduce settlement-related exposures.
2. pool collateral for settlement and triparty purposes.
3. net more cash settlements.
4. simplify operations.

Is market data provided by trading venues too expensive? Would imposing price controls be expected to benefit the real economy?

New economic analysis by Oxera tackles these challenging questions. The results of the analysis question the need for regulation.

In recent years, there has been a debate about market data services provided by trading venues in Europe. The perception is that the fees charged for these services in Europe have increased and are far higher than in the USA. The European Parliament and the European Council agreed with proposals from the European Commission to require trading venues to provide market data services on “a reasonable commercial basis”, and allow for delegated acts to be passed by the Commission to clarify what this would mean. These rules potentially open the way for price regulation by the European Securities and Markets Authority (ESMA).

This Oxera report presents new empirical analysis and provides an economic framework within which the pricing of market data services can be analysed.

Additionally, Oxera provided the following documents that highlight other aspects of the discussion.

As a response to the ESMA consultation, Oxera published, in September 2014, a document regarding reasonable commercial terms for market data services. Ideally, this note should be read in conjunction with Oxera’s report (Pricing of market data services).

In addition, Oxera’s article “Is ESMA becoming a price regulator?”, also published in September, should be mentioned.

High-frequency trading (HFT) has recently drawn massive public attention fuelled by the U.S. “flash crash“ on 6 May 2010 and the tremendous increase in trading volumes of HFT strategies. Indisputably, HFT is an important factor in markets that are driven by sophisticated technology on all layers of the trading value chain. However, discussions on this topic often lack sufficient and precise information. A remarkable gap between the results of academic research on HFT and its perceived impact on markets in the public, media and regulatory discussions can be observed.

The Goethe-University Frankfurt study aims to provide up-to-date background information on HFT. This includes definitions, drivers, strategies, academic research and current regulatory discussions. It analyses HFT and thus contributes to the ongoing discussions by evaluating certain proposed regulatory measures, offering new perspectives and solution proposals.

Despite a rise of the number of trading venues available to investors, transactions carried out on an OTC basis still represent a significant and stable part of the overall trading volume executed in the European cash equity market. The study reveals that most OTC trades are rather small and would not result in a significant market impact. The structural differences between OTC trading and primary market trades are overestimated in the public discussion. In 2009, five out of ten OTC trades in highly liquid shares were below the MiFID standard market size. The share of OTC trades that would result in a significant market impact increased from 68 percent in 2008 to 80 percent in 2010.

The fragmentation of venues driven by the opening of venue competition due to MiFID has accelerated the adoption of trading technology from order management systems to algos and smart order routing systems. These technologies have changed the way trading is conducted in the European cash equity market. Not only has it driven a decrease of transaction sizes but it has also made market data, both pre- and post-trade, more crucial to market participants, because this information is necessary for this computer-based trading to operate. The concern about information leakage is driving an increase of order execution in the dark side of the market, be it through dark pools, crossing networks, or OTC. Brokers/dealers have developed matching engines to electronify their OTC activities which were mostly conducted over the phone in the past. This is a clear improvement for the industry as a whole since it will decrease the likelihood of mismanaged orders and improve post-trade processing and reporting. However, broker/dealer crossing networks (BDCNs) do not provide a unique model of execution. In reality, BDCN operations could qualify for all three venue classifications created by MiFID.

The report also analyses the impact of the OTC trading volume on the structure of the European equity market and demonstrates that the current level of OTC transactions could pose a real threat to the order-driven model of the European cash equity market. The situation is even more acute with the development of BDCNs that could capture a greater market share from the regulated trading venues. Due to increased OTC trading activity, the pricing mechanism within the 'lit' market could be severely impacted, eventually pushing the equity market to become a quote-driven market.