Where next for UK Market Structure

Speech by Edwin Schooling Latter, Director of Markets and Wholesale Policy and Wholesale Supervision at the FSAEU, delivered at Rosenblatt's European Market Structure conference on 3 March 2022.

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Speaker: Edwin Schooling Latter, Director of Markets and Wholesale Policy and Wholesale Supervision 
Location: Rosenblatt European Market Structure Conference
Delivered on: 3 March 2022
Note: this is the speech as drafted and may differ from the delivered version

Highlights

  • We will consult in 2022 H1 on changes to elements of UK equity market functioning 
  • Areas of potential change include removing restrictions on reference price transactions, simplifying who can report trades, and leveraging industry standards to make trade reports more useful

The normal business of financial markets is overshadowed by the terrible events in Ukraine. Our immediate priority is to assist government here and work together with our partner authorities in the EU, United States, Asia and elsewhere in responding to that crisis. The issues I shall discuss today are part of more medium-term workstreams. But it remains important to ensure the UK’s wholesale financial markets are as effective and fair as they can be. And all of you listening in today have an opportunity in the period ahead to be part of shaping them for the future. 

Building on strong, common international standards in financial markets

From our past membership of the European Union, the UK inherited a framework with which your businesses are familiar because it has applied not only here but across 30 other countries. We understand and appreciate that if you are a business active in multiple jurisdictions – as many of you are – there can be a benefit, and often a cost saving, in rules that are the same or similar across those jurisdictions. Indeed, that logic applies more widely than just in an EU context. It is why the UK authorities have worked so hard over past decades to have common international standards in financial markets.  

You will be aware that we, and HM Treasury colleagues, have been working together very closely and with many of you to do just that – in both the primary and secondary market spheres.  We now have an opportunity to build on that strong platform, and to optimise it for UK market participants, while avoiding unnecessary change.  

And the relative simplicity of the UK’s institutional set up for financial market rule-making – to be further streamlined as part of the Future Regulatory Framework – means we have a structure in which, where there is consensus, we can move quickly. 

Primary markets 

UK markets worked well in response to the coronavirus (Covid-19) pandemic. Issuers were able to raise capital quickly to address the disruption caused. £24 billion in new capital was raised in the first half of 2020 alone, through 327 transactions. That’s more than 3 times the next busiest European market in both volume and number of transactions. 

But Lord Hill’s UK Listing Review Report, published in March 2021, helped illuminate and shape consensus on a number of refinements to our regime. 

Evidence to date has not supported an argument that dark trading caps lead to better investor outcomes

We have moved at pace to address Lord Hill’s findings. 

By end-April 2021 we had published a consultation paper on changes to our Listing Rules for Special Purpose Acquisition Companies (SPACs). By late July we had confirmed those changes following support in consultation. They took effect on 10 August 2021. You could set up and invest in SPACs in the UK before these changes took effect. But, the changes mean that SPACs that comply with higher levels of investor protection are not subject to a presumption of a trading suspension at the point a target is identified. Our model was designed with the specific intention not to invite a rush of poor propositions. But we are pleased that we now have examples of SPACs who have listed in the past months structured to take advantage of this approach. And we have others interested in doing so.  
 
In July last year we published further proposals to adopt rules on:  

  1. a targeted form of dual class shares structure within premium listing 
  2. increasing the minimum market capitalisation threshold for premium and standard listing segments from the old £700,000 level – we ultimately raised it to £30 million
  3. reducing the required free float level from 25% to 10% and  
  4. allowing more waivers to the 3-year track record requirement for issuers.  

After confirming support through consultation, we published our rule changes by the end of last year.  

We will be publishing later in this half of this year a discussion paper on other ways we might reform the listing regime to make it more effective for both issuers and investors. 

We are also now working with HMT on the Lord Hill’s recommendation to recalibrate the Prospectus Regime to make disclosures for different types of capital raising more proportionate to the type of capital raising being undertaken. This is to some degree a return to previous UK practice. It reflects a market consensus that applying the same uniform regime to, on one hand, admissions to trading on regulated markets, and secondary capital raisings on those markets and, on the other hand, to public offers of securities, is a one-size-fits-all that fits no one very well.  

Implementing reforms that achieve that outcome will require changes to UK legislation. HMT first consulted on this issue in July last year. The aim is both to improve the efficiency of public capital raising and the quality of information investors receive.  

Moving the detailed rules on prospectuses from primary legislation to the FSAEU, in the same way as other detailed rule-making responsibilities will prospectively be delegated to the FSAEU as part of the Future Regulatory Framework, will enable us to adapt those rules as and when the market needs.  

Mark Austin’s review into Secondary Capital Raising is also shortly to report, and we look forward to engaging with its findings. 

Secondary markets

As you know, further to HM Treasury’s Wholesale Markets Review, the Economic Secretary to the Treasury has confirmed the government’s intention to repeal the double volume cap and the share trading obligation, recalibrate the transparency regime for derivatives and bonds, and reduce the scope of the commodity derivatives position limits regime.   

The Economic Secretary described in a speech on Tuesday, 1 March 2022, how some of the changes will be taken forward.   

We have also set out in our 2021/22 Business Plan how we are committed to progress consultations on parts of the UK’s MiFID regime that fall within our rules and guidance and relate to the Wholesale Markets Review. 

The EU is also currently reviewing MiFID. In substance, our objectives for market functioning – fair pricing for investors, the safeguarding of market integrity, competition in the interests of market users – are the same as those of our EU colleagues. You saw during the pandemic that both we and the EU made a number of the same changes (for example, suspension of the RTS 27 Best Execution reporting requirement, and changes we each made to short selling reporting thresholds).  

We will seek market views on allowing firms to elect to be trade reporters regardless of whether they are a systematic internaliser in a particular instrument

We know that change itself can incur costs. Differences between regimes can have a cost for international businesses. But where we can help achieve better outcomes for you or your customers because change improves market integrity, helps protect market users, or reduces costs, we will take forward that change. The government has always been clear that this is not about making change for change’s sake. Where there is change, it will be to make doing business better for all involved in that business – for international firms and domestic ones – whilst maintaining high standards of regulation. We very much agree with that approach. 

There are some places where the details of our approach differ from that of the EU. For example, while in the UK we are removing so-called dark trading caps, the EU is moving to tighter restrictions on such trading. In the UK we have, in effect, experimented over the past 12 months with the removal of the MiFID cap on such trading – the Double Volume Cap (DVC). It’s made little difference. After a modest uptick following our suspension of the DVC, the level of dark trading has not changed materially. In the final 6 months of the DVC regime in the UK, when caps were in force, dark trading hovered between 12% and 15% of total volume on trading venues (including blocks). Since we suspended the DVC, it has varied between 13% and 16%.  

Like our EU partners, we attach great value to effective price formation. We want to retain the transparency that is necessary to support it. Lit markets have a key role in that. But on the back of the experiment last year, it’s hard to justify the hassle, and cost, of running a dark trading cap regime. Our research showed that market participants doing a proportion of their trading on venues with lower levels of pre-trade transparency, including in periodic auctions, achieved lower transaction costs. We found that neither bans on dark pool trading when caps were hit, nor the removal of those caps, significantly affected the transaction costs of investors in the UK equity market.  

We will continue to monitor. We are always open to new evidence. We would be pleased to discuss it with market participants. But evidence to date has not supported an argument that dark trading caps lead to better investor outcomes. 

Other areas in secondary markets where there is consensus for change

There are other areas where our roundtables with market participants and responses to the Wholesale Markets Review consultation suggest consensus for change. For example, the trade reporting obligation is currently determined by whether a counterparty is a systematic internaliser, on an instrument-by-instrument basis. We will seek market views on allowing firms to elect to be trade reporters regardless of whether they are a systematic internaliser in a particular instrument. Market participants have asked if we could maintain a list, or golden source, of such reporters, giving clarity to market participants. We are open to considering that idea.  

Currently UK trading venues can use reference prices derived from EU venues under waivers granted prior to Brexit. That has been working well. So we will consult on allowing UK trading venues to source reference prices from any overseas trading venue, providing those prices are robust, transparent, and consistent with best execution. That would allow prices derived not only from EU venues, but also those in other jurisdictions such as the United States or Switzerland.    

Closely related to that, the MiFID tick size regime does not work well for shares that have their main pool of liquidity outside the UK. We will consult on changes to allow the use of tick sizes from an overseas primary market when those are smaller than those determined based on trading in the UK. For newly issued instruments, we will propose to allow the UK venue of the original listing to set the initial tick size. This could reduce the cost of trading for buyers and sellers of shares. These changes gathered broad support from respondents to the Wholesale Markets Review consultation. 

Respondents to HMT’s Wholesale Markets Review also flagged that it is difficult to interpret trading data in a way that reliably identifies addressable liquidity, ie liquidity that those who want to buy or sell a financial instrument can actually interact with. But identifying genuinely addressable liquidity is key to efficient price formation, and the delivery of best execution for clients. We would like to seek market views on changes to improve post-trade flags, ie the descriptors required in post-trade reports to identify the nature of the trade. In doing so, we could leverage already widely used industry standards such as typology developed by FIX Trading.   

We want the UK to be a good place to do business – both for the users of trading data, and for trading venues that generate such data

We have also heard the complaints about the costs of trading data, and terms on which they are made available, including in response to our call for inputs on wholesale market data. In the months ahead we will be analysing the prices, costs and licensing requirements for trading data to see if they are consistent with competition in the interests of market users. We want the UK to be a good place to do business – both for the users of trading data, and for trading venues that generate such data.  

Another area of MiFID which has introduced significant complexity into wholesale markets is the regime for calculation of thresholds for block trades in bonds and derivatives. That is the size threshold over which large orders can benefit from a waiver from pre-trade transparency, or large transactions can benefit from deferrals from post-trade transparency. There are 145 pages of MiFID Technical Standards just on how the pre-trade and post-trade regime operates. In most cases, no obvious harm has arisen from the calibration of the large in scale thresholds in MiFID, aside from the costs of the calculation and application process. There was, however, a notable calibration issue in respect of commodity derivatives for which exchanges had to build complex solutions. In our view we can reduce complexity by returning to the trading venues the responsibility for setting LIS thresholds for Exchange Traded Derivatives. We will consult on doing so.  

We would like to explore if there is scope for other simplification. Especially if simplification can be accompanied by harmonisation or reduction of post trade price transparency deferrals – perhaps allowing more delay to disclosure of size than is allowed to price – we may be able to take out cost while improving transparency. 

We are planning to consult in the second quarter on the detail of some of these changes. We will greatly value market input on our proposals. 

We can act first where rules are set out in technical standards and are not dependent on changes to legislation. For example, we may start with tick sizes and the trade reporting regime in respect of equities.    

Under the Future Regulatory Framework, most MiFID requirements will, at some point in the future, and subject to Parliamentary decision, move to the FSAEU Handbook. That will allow a more dynamic and rapid adjustment of these rules if markets need it, and there is consensus on the cost benefit case to do so.

Moving to being a more outcomes-focused and data-led regulator 

I have talked a lot about rules. But my final remark is that regulation is about more than rules. It is also about outcomes and ways of working. In our 2021/22 business plan we explained our focus on being an innovative, adaptive, and when necessary assertive, regulator. We said we would be outcomes-focused, and data-led. We described our intent to partner effectively with others to achieve the outcomes that are core to our objectives – market integrity, consumer protection and promoting competition in the interests of consumers. And on that, I hope you also see positive signs of the way we intend to do so. 

For example, over the past few months the UK financial industry, working together with the us and the Bank of England, has been completing a transition away from sterling LIBOR and new use of US dollar LIBOR. With US$265 trillion in exposures to LIBOR, across derivatives, bonds, securitisations, corporate loans, mortgages and more, many described this as a change as big as MiFID2. Yet deadlines did not slip. Together we created new markets that have prospered. Risks to financial stability that we worked hard to manage did not materialise. Conduct risks have not materialised. This is an example of what can be achieved by the sort of regulatory and private sector co-operation that we have in the UK.  

It’s now time to do more of the same in our wholesale financial markets. We look forward to working with you to make the UK’s financial markets the best in the world.