This article appeared in the February 2012 ASX Investor Update email newsletter. To subscribe to this newsletter please register with the MyASX section or visit the About MyASX page for past editions and more details.
ASX Investor Update spoke to Richard Murphy, General Manager, ASX Equity Markets, about the implications - and some misconceptions - of exchange competition in Australia.
ASX Investor Update: Richard, what is exchange competition?
Richard Murphy: In a multi-market environment, trading in ASX-listed securities can take place on more than one trading venue. Australia now has a multi-market environment in line with government policy to introduce competition for market services.
In the ASX context, it means a new market operator is now competing with ASX for trade execution of the ASX S&P 200 securities and some exchange-traded funds (ETFs).
End-users (clients of brokers) may not notice this change has taken place. Australian Securities and Investments Commission (ASIC) rules place obligations on brokers to determine which venue an order is sent to for execution, so investors do not have to make this decision themselves. A broker is obliged to make the order routing decision on the basis of what is in the best interests of the client. For retail investors, the broker is obligated by the rules to get the best price for the investor; for institutional investors, brokers will look at a range of factors agreed with the institutions.
ASX Investor Update: How does exchange competition affect listed entities?
Richard Murphy: On 31 October 2011, new ASIC Market Integrity Rules came into effect. These do not impose any new obligations on listed entities. However, the rules do provide a framework for the trading of ASX-listed securities on multiple trading venues.
A new market operator commenced trading in ASX S&P 200 listed securities and some ETFs from 31 October 2011. ASX has offered a new orderbook for trading of these securities, PureMatch, from 28 November 2011.
For listed companies, the change should have few immediate impacts. ASX continues to be the relevant listing market for all ASX-listed entities. ASX Compliance will continue to undertake listing rule supervision and continuous disclosure monitoring for ASX-listed entities. This monitoring is undertaken on a whole-of-market basis. For the time being, ASIC has said that trading venues cannot operate outside the hours of 10am to 4.12pm. It is possible that trading hours may change in the future.
ASX Investor Update: How does exchange competition impact on ASX?
Richard Murphy: ASX is a vertically integrated, multi-product exchange. That means it comprises a number of interrelated businesses - listings, trading, clearing and settlement - for a wide range of products, including securities and derivatives. ASX also provides a range of services to other listed and trading venues operating in the multi-market environment. In addition, ASX oversees compliance with its operating rules, promotes standards of corporate governance among Australia's listed companies, and helps to educate retail investors.
ASX continues to conduct Australia's premier trading market, servicing the needs of a broad range of market users. As part of its service offering, ASX provides clearing and settlement services to other market operators. This means that new trade execution venues may simultaneously compete with ASX and take advantage of services offered by ASX as a client.
Mindful of the challenges and complexities in a new multi-market environment, ASX has developed and is continuing to work on a range of market services and support tools for our customers, their clients and other market users.
ASX Investor Update: What are some of the main misconceptions about exchange competition?
Richard Murphy: The first misconception is that exchange competition in Australia affects securities trading of all ASX-listed companies. It only affects those listed in the S&P/ASX 200 index. If your company is outside the ASX 200, its securities only trade on ASX.
Another misconception about exchange competition is capital raising. At this stage, Chi-X Australia is only a trading exchange. Companies seeking an initial public offering (IPO) can only do so via ASX or any other exchange that has listing rules. Companies within the ASX 200 can still raise equity capital via ASX, and have their shares traded on ASX and the competing exchange.
I have also been asked about the costs of exchange competition for listed companies. There is no additional regulatory cost, because listed companies still adhere to ASX Listing Rules. There may be an increase in share registry costs if exchange competition leads to more trading in a company's securities, although that is not clear at this stage.
Exchange competition has implications for investor relations within S&P/ASX 200 companies. They will need to understand where their securities are trading and who is buying and selling, and be conscious of different prices for their securities on different exchanges. The good news is that information vendors are thinking about how this information can be consolidated and provided to companies.
ASX Investor Update: Richard, how could exchange competition affect equity markets for listed companies?
Richard Murphy: The big question being debated in Europe and North America is whether exchange competition is fuelling growth in high-frequency trading, and fundamentally changing the nature of equity markets for listed companies and long-term investors. Experience overseas shows high-frequency trading tends to thrive in markets where there are multiple exchanges, as traders arbitrage prices between different exchanges, using technology.
ASX does not have a concluded view on this issue as yet. High-frequency trading has benefits: higher trading volumes and tighter bid/offer prices. A key concern internationally is that taken to an extreme, high-frequency trading can also lead to a lower average trade size in securities, which makes it harder for institutional investors to trade in larger blocks of securities, which could impact the quality of the market we see today. This could cause institutional investors to trade more in dark books, which could further erode the quality of liquidity in fully transparent markets, which may have knock-on impacts on price discovery and for companies to raise capital. Some in the marketplace also think high-frequency trading could also increase market volatility, but there is also research suggesting it does not.
There is a risk that high-frequency trading is another factor damaging the long-term health of the global capital markets ecosystem. We are seeing this problem in US exchanges, where an increasing amount of exchange liquidity is from high-frequency traders. The volume of IPOs has fallen in the US; there is less research on small and mid-cap companies because brokers are focusing on their high frequency clients; and a growing feeling that the quality of US exchanges has suffered because of a range of factors including high-frequency trading coming on the back of SoX (Sarbanes-Oxley Act) and the decision to segregate research from corporate advisory in the US. More of the real volume in securities trading in the US is occurring in "dark pools" as institutional investors buy large amounts of securities off-market. This trend is a concern.
It is a question of balance. First and foremost, we must ensure exchanges worldwide facilitate long-term investment from institutional and retail investors, and are a platform for companies to raise capital and have their securities actively traded in the secondary market. But we must also recognise the rising influence of technology on trading, be able to facilitate high-frequency trading, and ensure its benefits help strengthen exchanges for all investors.
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