Canada’s equities markets have been transformed over the past couple of years, with the launch of new trading venues and novel execution models. Now, regulators are laying down the laws for this brave new world.

For almost two years, the Canadian Securities Administrators (CSA) has been contemplating fundamental reform to the equities market structure to address a variety of issues with the current trading landscape. Those issues include increased fragmentation, rising trading and market data costs, and concerns about the prevalence and impact of predatory trading strategies. Now, the CSA has finalized reforms that will address some of these issues – but not all of them.

The CSA is introducing a series of rule changes, including a cap on trading fees and a new, standardized methodology for setting market data fees. The CSA also is revising the order protection rule (OPR) that sits at the heart of the trading rules: only certain markets will be subject to the OPR.

However, the CSA is dropping its plans to test the elimination of maker/taker fee models. These models aim to generate order flow by paying rebates to traders that provide liquidity, while charging fees to traders that take liquidity. By way of explanation, the CSA cites the risk that interlisted volume would migrate to the U.S. if regulators were to eliminate these models in Canada. There is some hope that the U.S. might launch its own experiment in this area in the near future.

Order protection

In the meantime, under the new rules, which are slated to take effect on July 6, only markets that supply at least 2.5% of overall trading volume will be subject to the OPR. Markets that use a “speed bump” to slow down trading and curb the technological advantage of high-frequency traders are not protected.

Order protection aims to ensure that investors receive the best prices for their orders, and that those orders are not “traded through” (that is, executed at inferior prices). The current OPR effectively requires dealers to connect to all available marketplaces to ensure that orders are being executed at the best price. Yet, this means that firms must connect to all trading venues (and buy their data), regardless of whether those firms add anything to a market.

By establishing a market-share minimum before the OPR kicks in, the CSA aims to address the complaint that firms are, in effect, forced to connect to all markets whether they want to or not.

Now, only venues that are able to attract a meaningful share of trading volume on their own merits will receive order protection.

Needless costs

The CSA states that the new rules will give firms “flexibility” to determine whether to connect with particular markets. The regulator hopes these reforms will address some of the needless costs that have crept into the existing market structure.

According to a report from TD Securities Inc. (TD), there are four marketplaces that would not qualify for order protection under the new 2.5% threshold. However, the TD report doesn’t anticipate that most firms will cut off these markets. Rather, the report suggests that the new rule is likely to serve as a barrier to entry for new markets because they won’t be able to set up shop simply on the strength of the market data subsidy provided by the OPR.

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