AMF research paper on Post-MiFID developments in equity market liquidity
21 July 2010
The study seeks to measure the change in liquidity and implicit transaction costs for a sample of large and mid caps since the introduction of MiFID, contextualising these developments by taking fluctuations in volatility into account. It also describes the institutional framework.
MiFID abolished the concentration rule, which required orders to go through domestic regulated markets, and created three categories of venues for the organisation and execution of securities transactions: regulated markets (RMs), multilateral trading facilities (MTFs) and systematic internalisers (SIs).
The same pre- and post-trade transparency requirements apply to all venues except dark pools, which are MTFs whose trading mechanisms do not generate price discovery and which are exempt from pre-trade transparency rules. Under the post-trade transparency rules introduced by MiFID, all transactions in regulated financial instruments must be reported to the market, even if they are carried out over the counter (OTC). Such disclosures do not have to be made to the regulated primary market; they may be made using proprietary resources or submitted to a trade reporting facility (TRF).
The biggest change since MiFID came into effect is surely the rise of MTFs and their ability to capture a substantial share of order flow. There has been much debate over this issue: some believe that heightened competition has pushed down transaction costs. Others argue that increased fragmentation has widened bid-ask spreads on the main equity markets. To assess MiFID's impact on transaction costs, it is important to distinguish explicit and implicit costs. In terms of explicit transaction costs, MTFs have generally grown market share in return for drastically reduced explicit fees. In terms of implicit costs, several regulated markets agree that bid-ask spreads on the most actively traded stocks have increased since end-2007. However, it is hard to say to what extent the increased spreads are attributable to fragmentation or to the financial crisis and the ensuing surge in volatility.
This study seeks to measure the change in liquidity and implicit transaction costs for a sample of large and mid caps since the introduction of MiFID, contextualising these developments by taking fluctuations in volatility into account. Section 2 describes the institutional framework, selected observation periods and data used. Section 3 assesses order-flow fragmentation and the intensity of competition between trading systems since MiFID's introduction. Section 4 looks at how liquidity changed between the observation periods. Section 5 summarises the main findings.
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