Exchanges have played a major part in every groundbreaking market structure change over the last 25 years. In this Forecast 2021 article, NYSE, Nasdaq, Cboe and the TMX give their outlook in this Q&A, compiled by Sam Belden and staff at Forefront Communications.
In our Forecast 2021 series, we bring you reflections and predictions from prominent firms and thought leaders from the industry. Today, we’re highlighting perspectives from the world of exchanges, with thought leaders providing their perspectives on the spikes in volumes and volatility, increasing fragmentation and the surge in retail trading activity.
A global exchange operator
Bryan Harkins, Executive Vice President, Head of Markets
202
0 saw record volumes and volatility, in addition to necessitating widespread shutdowns of physical trading floors. What was your experience during that period? What, if anything, might the long-term impact be?
Like most industries, we focused on the health and well-being of our employees first. This has been a difficult year for everyone, not only due to health risks but also due to juggling working from home, school closures, et cetera. You have to start with empathy for your employees and I’m proud of how Cboe has handled that. Looking ahead, while we’re eager to get back to the office and we miss the camaraderie of that environment, there will be a work-from-home element going forward. How many days a week that is remains to be seen, but like most in our industry, we’ve been incredibly surprised by how well we’ve operated remotely.
From a trading standpoint, I think the industry should be quite proud of how it has handled the volatility. From the turmoil of the start of the pandemic to the election, this year has contained one volatility event after another. On the closure of physical trading floors, from our perspective, we prioritize the health and safety of our employees who support the floor as well as the trading community that comes into the floor. Obviously, we were shut down for quite some time, but we seamlessly moved to fully electronic and are proud of how the team handled that operationally.
However, we knew the optimal solution was to have a hybrid environment, whereby we operate a physical floor alongside our electronic order book. For years, that has created optimal liquidity choices for our customers. We spent a lot of time on our reopening plan, following federal and local guidelines and prioritizing health protocols. We ultimately returned to the floor over the summer.
Three new equity exchanges launched in 2020. Is there too much fragmentation? Why or why not?
Competition is always welcome. May the best exchanges win. You’ll never hear Cboe saying there are too many exchanges. Competitive forces should determine which exchanges win or lose. From Cboe’s perspective, we’ve been evolving our value proposition to create a more differentiated equities offering – whether that’s retail priority, periodic auctions filing, Cboe Market Close, the list goes on. So we very much believe in competition and that our value proposition is different than other exchanges.
On fragmentation, there has certainly been some frustration on the institutional side about this trend, but to be clear, the fragmentation doesn’t just exist in the exchange space. We now have 45% of the equities volume trading off exchange in everything from dark pool ATS’s to single-dealer platforms to central risk books to reciprocal liquidity arrangements. The market is highly fragmented – this is not just an exchange challenge. We at Cboe sit at the center of trying to innovate to solve some of these market fragmentation issues.
Retail became a much more significant part of the market in 2020. What’s the impact been, and what will it be moving forward?
The magnitude of retail growth has certainly been surprising, but the more you talk to retail brokers, you realize the profile of the new retail investor is getting younger and the account size is getting smaller. In addition, the size of the trades continues to shrink, both in options and in equities. We think the retail phenomenon is here to stay. We think you’re going to see exchanges and brokers innovate to try to capture the new retail trader. Even though the average retail trader is smaller, there’s just a lot more of them, so the volume has exploded. Cboe will continue to focus on solutions to cater to that growing segment.
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A global technology company serving the capital markets
Chuck Mack, Vice President, Head of US Equities
2020 saw record volumes and volatility, in addition to necessitating widespread shutdowns of physical trading floors. What was your experience during that period? What, if anything, might the long-term impact be?
We saw a number of milestone moments in the early days of the pandemic. Nasdaq went 98% remote in early March, a first for us. The markets saw extreme volatility with multiple market-wide circuit breakers happening in a single month, a first since the circuit breakers were established, and markets showed their resiliency consistently. At the same time, we had our busiest year for IPOs on Nasdaq in the past decade. We expect continued industry-wide focus and investment in resilient market technology, which we’ve anticipated and prepared for extensively. We also expect and embrace an increased focus on safety, employee well-being and community impact by market players.
Three new equity exchanges launched in 2020. Is there too much fragmentation? Why or why not?
Competition is vital to a healthy economy and we welcome it. We don’t see fragmentation as an issue if new platforms bring innovation to the industry. The free market will determine whether that innovation is valuable. One thing that is worth looking at are the incentives around operating new markets, and in our TotalMarkets agenda we support reforming the SIP revenue formula to support the displayed quotes that drive price formation for the market and provide price transparency to the investing public.
Retail became a much more significant part of the market in 2020. What’s the impact been, and what will it be moving forward?
It’s great that more Main Street investors have become active market participants. It’s a trend we saw developing late last year and it accelerated through 2020. We would like to see this new generation of investors stay in the market for the long run, and that’s why we launched our Smart Investing initiative to ensure we help these new investors manage risk. We’ve seen increasing individual investor activity in options this year, something we haven’t seen in past surges of retail trading. In addition, we work hard to maintain the market quality that investors experience. While a large proportion of retail activity occurs off exchange, these investors are beneficiaries of the price discovery and displayed liquidity our exchanges provide.
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A stock exchange and subsidiary of Intercontinental Exchange
Hope Jarkowski, Head of Equities
2020 saw record volumes and volatility, in addition to necessitating widespread shutdowns of physical trading floors. What was your experience during that period? What, if anything, might the long-term impact be?
In March, the NYSE made the unprecedented decision to temporarily close our trading floors and shift to a fully electronic state as health conditions worsened. We worked closely with state and federal authorities, as well as our member community to ensure a smooth transition to all-electronic trading. From a system perspective, the transition was flawless, and our markets handled the increased volume and volatility extremely well. NYSE Designated Market Makers retained all their unique obligations to support our listed companies, meeting their quoting and auction requirements electronically instead of from the floor of the exchange.
At the peak of the volatility, investors sought price transparency and resiliency, shifting order flow back to trusted, regulated venues like the NYSE. Messaging volumes on our equities markets quadrupled their Q4 2019 averages and, in a single day, NYSE Group systems processed a high of more than 329 billion messages. We test and upgrade our technology year-round to be prepared for market swings at any time, and it’s certainly a testament to our operations teams that we can always execute at this high capacity. Clients told us that NYSE’s Pillar technology was unmatched in its consistent, low-latency performance during this market-wide peak activity.
The trading floors’ temporary closure reaffirmed the NYSE’s commitment to continued innovation of and investment in our equity and options trading floors. We were able to separate and examine the different facets of our market model – accountability, human oversight and technology – and found that stocks trade best when all three are integrated on the NYSE trading floor.
Three new equity exchanges launched in 2020. Is there too much fragmentation? Why or why not?
With 16 equity exchanges now in operation in the U.S., fragmentation is approaching the point of diminishing returns. It’s unclear whether this year’s new entrants provide differentiation for end investors, while we know that further fractioning adds complexity and cost for market participants. In the future, it may be worth reconsidering a market share threshold for an exchange to receive order protection.
At NYSE, our three listing exchanges offer unique value propositions to distinct issuer communities, while our two trading-only exchanges serve distinct niches for institutional traders and their agents. And with a lower all-in cost per share than most dark pools, we offer choice to issuers and investors at an exceptional value.
Retail became a much more significant part of the market in 2020. What’s the impact been, and what will it be moving forward?
Retail trading grew this year due to the combination of working from home, zero commission trading and increased engagement with innovative brokerage. It’s encouraging to see increased participation in our capital markets, as we believe public markets are a powerful mechanism for democratizing participation in economic growth. However, it’s important to ensure that this engagement is balanced with access to educational resources and issuer transparency.
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A global markets operator
Kevin Sampson, President, Equity Trading
2020 saw record volumes and volatility, in addition to necessitating widespread shutdowns of physical trading floors. What was your experience during that period? What, if anything, might the long-term impact be?
Despite this turbulent environment, and especially in the spring and summer, our markets functioned well and were highly resilient, which is critical to support investor confidence. During the March market drop off, and subsequent ‘mini-recoveries’, the ability of our exchanges to perform our critical function – providing issuers and investors access to capital – became our number one priority. TMX was prepared and our markets were fully operational.
In total, market-wide circuit breakers were triggered four times, which hasn’t happened since 1997! A coordinated industry effort, including marketplaces, regulators and participants, enabled us to enter and exit these market pauses in an orderly manner. Under this stress, it was encouraging to see our industry processes prove effective, enabling us to efficiently provide market continuity.
Specific to Canada’s equity markets, 2020 featured record-breaking levels of trading activity. Volumes are up 46% since the COVID-19 pandemic hit, and we experienced extreme and elevated levels of messaging into our trading systems, more than double the activity in 2019. These trends have placed heightened demands on our trading and related systems, and they present new challenges for us in meeting industry expectations around stability, resiliency and availability. We are responding to these challenges with a renewed focus and level of investment around operational excellence and resiliency across various aspects of our infrastructure, applications, capabilities and processes.
Three new equity exchanges launched in 2020. Is there too much fragmentation? Why or why not?
In our experience in Canada’s markets, concentrated liquidity in auctions generally results in better price formation and price discovery and better overall execution quality.
Retail became a much more significant part of the market in 2020. What’s the impact been, and what will it be moving forward?
Retail trading in Canada increased as a result of the COVID-19 pandemic, reaching peak levels as high as 45% in July 2020. Along with the pandemic, we attribute the rise in retail and especially direct investing to other factors, including attractive commission rates, increased digitization and opportunities driven by volatility. As the trading experience continues to be tailored to serve the needs of the retail trader (via lower costs, more choice, better technology/platforms, etc.), we expect participation levels may continue to grow. In Canada, where retail orders are not wholesaled but participate directly “on-exchange,” this has a positive net effect by adding incremental liquidity for institutions and other counterparties to interact with and further enhancing “public” price discovery. We also believe that this is driving increased demand from retail for investable products, presenting opportunities for us to improve the accessibility and transparency of a broader portfolio of “on-exchange” assets in response to that demand (e.g. Green /Sustainable Bonds, Structured Warrants).
This article includes firms that are both clients and nonclients of Forefront Communications.
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