Arrowhead, the high-frequency trading system launched by the Tokyo Stock Exchange on January 4, has reduced trading costs by over a third and hugely increased trading speeds. These improvements are in turn boosting activity.
Robert Hogan, head of execution services at Deutsche Securities in Tokyo, says Arrowhead has directly impacted trading. The latency for the exchange to accept an order has gone from 2.5 seconds previously to about 2.6 milliseconds, a thousand-fold improvement.
"It's a big deal, as is the fact that the exchange is also offering co-location," he says. "The number of orders and fills has increased markedly, especially for liquid issues. This is reducing spreads and lowering the cost of execution."
In addition, an increasing number of hedge funds are setting up trading operations in Tokyo to take advantage of the new opportunities, Hogan says. But trading in Tokyo over the past month or two has also been tempered by macro factors such as the Greek credit crisis, he says, adding that overall volumes have been low worldwide.
Agency broker ITG reports a 36% fall in Japanese trading costs of equities in January compared to the previous month, the largest month-on-month percentage drop in a year and a half. This comes after costs had already more than halved during the course of last year.
But although the results show a big drop in costs and increased turnover, analysts say the turnover spike some predicted has not occurred.
Buy-side firms agree that execution speed is now much quicker. In addition, due to the TSE price structure change, "bid-offer spreads have been reduced by around 20% on average compared to last year", says Takashi Nakamura, head of trading at Tokio Marine Asset Management. "This has directly improved investment performance."
Hei Seki, head trader at Axa Rosenberg Investment Management in Tokyo, reports that execution delays seen previously have stopped. She says the firm does more self-directed algorithmic trading on the new system than it did in the past.
For some small caps, she adds, the price has occasionally moved sharply, probably due to more participants trading the market now.
"We are monitoring the price movement more carefully and paying more attention to make sure we set a limit price to protect us from unexpected volatile movements," adds Seki.
The new system cuts the latency of trades and results in smaller tick sizes, says Clare Rowsell, head of client relationship management at ITG Asia in Hong Kong. Since the introduction of Arrowhead, average trade sizes have fallen, spreads have narrowed and the total turnover has risen, she adds.
This could also lead to a rise in the activity of US institutional day traders on the TSE. "The low latency should encourage more high-frequency traders into the market as the TSE is seen to be more efficient," says Rowsell. High-frequency traders typically enter and exit within a day.
ITG, which tracks the costs of trading in several Asian markets, says its statistics equate to an average cost saving of $18,000 for every $10 million of Japanese equities traded in January this year compared to December 2009. The saving has been more pronounced for large-cap Japan stocks with a 46% decrease, followed by mid caps (27%) and small caps (14%).
Over the same period, there was a 30%-plus fall in typical trade size (both volume and value) among the most liquid stocks on the Nikkei 225, adds the ITG report. This trend reflects developments seen in other markets such as the US, when, as electronic trading develops, spreads narrow and automation on trading venues becomes faster. But although average trade size drops, total volumes traded generally remains high or increases.