Asia-based buy-side traders and independent investment advisers need to be aware of Europe’s Markets in Financial Instruments Directive II, which was agreed last month – but the effect on them seems unlikely to be major.
For one thing, Mifid II is set to place caps on equity trading in dark pools: 4% of the trading volume in a single stock within one dark venue, and 8% of the aggregate volume in a single name across all such venues.
One head of dealing at an Asian fund house says this rule is of little concern, despite the fact that the firm often trades Europe, as it has found liquidity in the lit (exchange-traded) markets there generally sufficient.
That said, high-frequency traders (HFTs) may find more trading opportunities in the lit market after the new rule comes in, says Arjen Gaasbeek, managing director of Hong Kong-based proprietary trading firm GAAZ.QT.
If more large trades from traditional long-only investors were to go through traditional bourses, HFTs – specifically those that engage statistical arbitrage (which seeks to profit from mispricing between securities) – may detect more opportunities there, he explains.
This is because they may find more unusual market movements when using algorithms to seek out arbitrage opportunities across exchanges and alternative venues.
Research house The Tabb Group estimated in November that total European dark pool volume represents 11% of all executable equity liquidity, or liquidity against which buy-sides can execute.
Mifid II also requires algorithms used by HFTs to be tested and authorised by regulators, a move welcomed by the unnamed head of dealing.
“Most long-only investors do not want to have much exposure to HFT flows in the market, as their participation can skew a lot of price movements," says the dealing head. "Too much price skew is not conducive to determining realistic stock valuations.”
Meanwhile, independent advisers in Asia are set to be barred from receiving commissions from product manufacturers under Mifid II proposals aimed at targeting stronger investor protection. All the businesses of European asset managers globally may be affected.
This will potentially also impact Asian investment advisers and portfolio managers that have European operations or perform services for European counterparties, says Stephane Karolczuk, head of Hong Kong at Luxembourg law firm Arendt and Medernach.
“Those rules result from lengthy discussions at the European level between institutions,” says Karolczuk. If an investment adviser subject to Mifid introduces itself to a client as being ‘independent’, it shall not receive any inducements from the fund sponsor, he notes.
Even in Hong Kong, where inducements are allowed, it may be that an adviser that actively promotes its services to European counterparties and introduces itself as ‘independent’ will be caught by the new rules and therefore can no longer receive any kickbacks from product manufacturers.