A colleague, who is among those closely following new US legislation the “Wall Street Transparency and Accountability Act of 2010,” has drawn my attention to Section 733:  new provisions for regulating electronic swap trading platforms as “Swap Execution Facilities” – similar to EU MTFs. more >>

Bourse Consult was contracted by the City of London Corporation to examine the current state of the Post-Trade Infrastructure for Carbon Emissions Trading, focussing primarily on the EU Emissions Trading System. The report is timely, with the upcoming changes proposed for the next stage of ETS starting in 2013, i.e.auctioning of allowances and the development of a single registry infrastructure. After reviewing the current status of the infrastructure, and comparing it to best practice in other financial markets, the report goes on to make recommendations for possible improvements.

The report was published today and can be downloaded directly from the Corporation’s website via this link.

Stuart Fraser, the policy chairman at the City of London Corporation introduced the report with a piece in City AM.

It is a recurring theme in this Commentary that market participants take a risk when they underestimate the importance of the post-trade processes. They may be complicated and less glamorous than sub-millisecond trading systems, but if they don’t work well, then the market will not function.

This is well illustrated by a fascinatingly detailed paper by Richard Comotto for the European Repo Council. more >>

NYSE Euronext has announced that it intends to spend $60 million to build two new clearing houses, in London and Paris, to be operational by the end of 2012, bringing in-house the clearing of cash and derivative contracts currently undertaken by LCH.Clearnet.

(This time, NYSE Euronext is being careful to give LCH.Clearnet full notice of termination of its contracts, 30 months in the case of LCH.Clearnet SA in Paris. In 2009, NYSE Euronext paid LCH.Clearnet €260 million for early termination of its contract.)

The move underscores the recent trend by exchanges to create vertical silos where possible. (In the case of the French market, this move technically re-creates a vertical silo, since Clearnet was actually a subsidiary of Euronext before it merged with LCH.)
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So the UK has a new government. Many have been the doomsayers who have criticised the negotiating process which led to the formation of the Tory/Lib Dem coalition (notwithstanding the fact that it was achieved pretty rapidly compared to the coalition negotiations that take place elsewhere in Europe, e.g. Germany). “If you choose proportional representation, this is what you’ll get after every election” critics have said. But is this a bad thing?

What it means, as we have discovered from the Tory/Lib Dem deal, is that the more extreme policies of both parties have been ditched for a more consensual (and, I would argue, a more sensible) position. In the case of the policies that affect the City, lo and behold the absurd Conservative policy to abolish the FSA now looks as if it will be ditched. Instead of giving the entire job of regulation to the Bank of England, it seems the latter may only have “overall supervision of banking” with the detailed supervision of individual banks being left to the FSA. And the idea of splitting big banks into retail and separate investment banks, instead of being immediately implemented is instead to be examined by an independent commission. The idea of a UK Glass Steagall act, long since ditched in the US and with no-one there arguing for its reintroduction, was heavily promoted by Ken Clarke. It would be nice to know on what basis? Northern Rock had no investment banking activities – that didn’t help it. A mature examination by a commission of experts will, I hope, reach a sensible conclusion.

So PR (even in the diluted form now being put to a referendum) may lead to more coalition governments in the UK. If in turn it leads to more sensible government that cannot be a bad thing.

CESR has just published the responses to its consultation on Micro-structural issues of the European Equity Markets.

These offer some insights into the scale of High-Frequency Trading (HFT) in Europe, summarised below. more >>

Jeremy Grant has raised an interesting point in his Quick View in the FT Trading Room, where he discusses the debate in the US about whether central counterparties (CCPs) should have access to the Federal Reserve’s Discount Window in a crisis.

This debate brings into focus the curious No-Man’s Land occupied by CCPs. Just what kind of institution are they? And where do they fit in the financial regulatory structure? more >>

Both Turquoise and NYSE Arca Europe announced last week that they were to launch markets in US shares during European hours.  Will these ventures work when attempts in the past have been curiously unsuccessful?

In the late 80s the LSE’s SEAQ International market was launched with the prime objective of establishing a liquid US equity market in European time but, whilst it succeeded in creating liquid markets in the blue chips from all other major global markets, US equity trading never lived up to expectations.  The overlap of trading hours with London meant that European investors could wail until New York was open, and the enormous liquidity available in the home market meant that most of them preferred to do so.

In the 90’s, at the height of the tech boom, there was a burst of excitement about trading Nasdaq stocks in London for the European market. CREST established a settlement link with DTCC. DTCC set up a European central counterparty. Market-makers, such as Knight Securities, established high-profile London operations. Then the excitement deflated as the air went out of the tech bubble. The market-makers and the DTCC European CCP closed down. The CREST-DTCC link remains in place but now is probably used mainly by brokers providing services for retail clients.

Have things changed enough since these two earlier ventures for Turquoise and NYSE Arca Europe to fare better?  Well perhaps.  Algo trading, global networks and smart order routing could effectively level the playing field for the European MTFs during US market hours. But inevitably total liquidity in US equities earlier in the European day will be lower and there will be the risk of being caught out by announcements made just before the US opens. Will these factors continue to keep trading on the MTFs thin until New York opens?

In general, the success of a trading initiative depends on the efficiency of the post-trade arrangements behind it. Again, DTCC has a European clearing house, EuroCCP, which will provide clearing of US securities in Europe with settlement in DTCC in the US. The real question is whether this is enough for traders to regard the European MTFs as part of the same trading space as the US. Or is it necessary to go a step further and make European trading fully fungible with US trading through a single clearing process?

Peter Cox & Hugh Simpson

Jeremy Grant’s article in today’s Financial Times reports on the House of Lords’ view that European clearing houses should not be regulated by a EU authority since the EU would not be able to bail out a clearing house if it collapsed.  The Lords report, which can be found here, concludes that “in the absence of any crossborder fiscal burden-sharing arrangements for failing financial institutions, central counterparties cannot be supervised at an EU level because the EU itself does not have the financial resource within the budget to bail out a large central counterparty”.

This surely confuses two elements of the governance structure for clearing houses – regulation and emergency financial support.  In current governance structures the responsibility for these two elements is quite separate.  The FSA would not provide financial support in the event of the London Clearing House going bust.

The real question is whether a European-level regulatory authority would improve the regulation of clearing houses.

The news that Direct Edge has received approval to convert its two ECNs into exchanges brings the number of ECNs in the US down to three, accounting for only 1% of market volume. This is a remarkable turnaround from the days when ECNs were seen as the challengers to the exchanges.

The conversion of ECNs into exchanges in the US seems to be in contrast to Europe, where MTFs (their European cousins) are gaining market share at the expense of the established exchanges.

What accounts for the difference? Does the balance of regulatory obligations and benefits favour exchanges in the US but MTFs in Europe? Or does the success of the MTFs have less to do with regulatory advantage and more to do with technology and market positioning? (And not all MTFs have been a wild success, of course.)

Any ideas?