The European Securities and Markets Authority (ESMA) has published an economic report on order duplication and liquidity measurement in EU equity markets. The report is the second part of ESMA’s high frequency trading (HFT) research.
Like the first report ESMA’s starting point is the change in the trading landscape of equity markets over the last decade. The defining features of this change are increased competition between trading venues, fragmentation of trading of the same financial instruments across EU venues and the increased use of fast and automated trading technologies. In its first report ESMA found that HFT activity represents between 24% and 43% of value traded and between 58% and 76% of orders in its sample. In its latest report ESMA focuses on liquidity measurement where equity trading is fragmented.
The latest report finds that overall multi-venue trading has increased the liquidity in EU equity markets. However, it also shows that 20% of orders across European venues are duplicated and 24% of duplicated trades are immediately cancelled if unmatched.
ESMA also found that order duplication and immediate cancellation is used by traders to ensure execution across multiple trading venues. This strategy is commonly used for market markers’ activities and by institutional investors seeking liquidity and it contributes positively to liquidity. However, for measuring liquidity ESMA finds that duplicated orders and immediate cancellation lead to the overestimation of available liquidity in fragmented markets. This means that a certain percentage of the liquidity visible in order books is ultimately not available to the markets.