TMX Group’s proposed changes to its Alpha exchange are intended to stem the movement of retail order flow to the U.S. by offering incentives in the form of rebates for active orders, a speed bump, and a minimum size for liquidity providing orders.
“We're re-positioning our Alpha market to replicate as near as possible the economics of payment for order flow,” Kevan Cowan, president, TSX Markets and group head of equities, TMX Group, told Markets Media. “We're building a marketplace that enhances the opportunity for interaction between electronic liquidity providers on the one hand and traditional active traders on the other.”
Cowan will speak on the Main Debate at Markets Media’s Canadian Trading and Investing Summit, which will be held Wednesday, April 1 in Toronto. The session will cover high-level topics such as stemming the tide of south-bound order flow and the role of exchanges.
The Alpha proposals, which have been published for comment, were developed to address the issue of Canadian dealers looking to execute natural trading flow with wholesalers in the U.S. where, unlike in Canada, customer segmentation and payment for order flow are permitted.
“We're inverting the model from maker-taker to taker-maker pricing, so we’ll actually be charging the liquidity provider and paying the active side of the trading equation,” said Cowan. “We've also put in place a minimum size. We believe that by providing this opportunity for electronic liquidity providers to interact with traditional flow, that the electronic liquidity providers should be willing to put in a larger order size.”
The speed bump is intended to give providers of passive liquidity an increased likelihood of interacting with active orders of natural investors, while being protected against opportunistic, latency-sensitive active strategies, according to TMX.
Kevan Cowan, TMX Group
“IEX is using a speed bump in the United States,” Cowan said. “This is a different kind of speed bump, which will enhance the interaction between electronic liquidity providers and the traditional active traders.”
Canadian securities regulators have expressed concerns about Canadian retail order flow being shipped south of the border, where it is executed primarily on dealer internalization systems that don’t guarantee price improvements, which are mandatory in Canada under trade-at provisions that were instituted in 2012.
“In the United States, you can receive payment for order flow, and in Canada you can’t,” said Cowan. “Canadian regulators over time have taken the view that payment for order flow introduces a conflict into the relationship.”
The Canadian market, through rules, regulations and policy, has put more emphasis on the visible lit market than the United States, according to Cowan.
“Probably the most important example of that is the Dark Rules in Canada,” he said. “In Canada, we have had, since October 2012, our own version of the Trade At rule, which fundamentally means that if there's going to be off-exchange trading or dark trading, it has to occur with meaningful price improvement. That's one area that Canada's done something differently and because of that, we tend to have less dark trading than in the United States and more trading on central, visible markets. We certainly think that there's advantages for price discovery when you have a priority on the visible markets.”
The Order Protection Rule, Cowan added, “is a really fascinating issue because it's one that our regulators are dealing with right now. As we move from a fragmented to a segmented market and as people bring new technological innovations to the marketplace, our regulators have to make a decision on whether the Order Protection Rule still should apply as broadly as it did previously. That's a public policy discussion that's occurring right now.”
Ultimately, Canada is likely to follow the path taken by the U.S. of a fragmented and segmented market “with different product offerings by different market operators,” said Cowan. “Along with that move from market fragmentation to customer segmentation, we're also seeing a renewed phase of technological innovation. Certainly, that's what we're focused on, i.e., how do we use technology to benefit our customers?”
Featured image via /Dollar Photo Club
