Global Trading: A new exchange model

October 9, 2013

Alasdair Haynes of Aquis Exchange examines the characteristics of his new exchange, and what sets it apart from current business models.

Despite Europe appearing to be a very fragmented market and most exchanges being nationalistic in their outlook, if we look at the market today, around 95% of all business in each country is done by either the national exchange or BATS-Chi-X. That, to me, is a duopoly – 95% of business done in two places means the market is not fragmented. So looking at the European market in its entirety, there is plenty of room for a new exchange to set up on a Pan-European basis and become a third player, which I think the market needs.

Our intention is to grow the markets and we believe it is right that national markets will not have such a dominant share in the future. The model that we are introducing – which is a subscription, all-you-can-eat model –is based on the way telecoms and mobile phone companies operate. The main issue in Europe is; how do we grow the equities market? One of the ways to do this is to bring in a completely new, very disruptive pricing methodology which is exactly what we intend to do. Trading volume in the United States is four times that of Europe but they have equal GDPs and Europe’s population is slightly larger.

There are currently only two venues where there’s any liquidity; either BATS-Chi-X or the national market. When we consider where we position ourselves, we want to bring utility pricing and utility business to the exchange industry.

We don’t see ourselves as niche players, we want to become the third market in Europe and grow from there. We have set the barriers to entry for our Members as low as we can, we’ve set up a data centre in the same place as many of our potential members are located (in Slough), we are using FIX which has become an industry standard and we have a proprietary protocol designed and built by us which is very simple to use. We believe that this technology, built and owned by us, is going to move markets to the next dimension.

Where did the inspiration for a different pricing model come from?
I was sitting in a shop buying a phone for my 13-year-old son and we were having a conversation about the type of phone he wanted. Like every other 13-year-old, he wanted the ‘all you can eat, download whatever I want and play as many games as I can in one’ package. And I then realised that we needed to use this model in financial services.

There are plenty of academic papers about subscription pricing. In almost every case you look at the certainty of earnings which generally brings down prices; as long as you have consistency of earnings, you don’t get the variability that other firms do and, therefore, you can price competitively. The second thing is that it raises standards because you can’t afford to lose your subscriptions. I’ve spoken to over 55 customers of all different types; market makers, investment banks, mid-sized, small-sized, large-sized brokers. There were two or three who said they would like to see liquidity move first, but many others looked at the model and agreed that it makes sense in our industry for somebody to do this. And the reason it has not been done before is that we are capping our upside, something that the quoted exchanges can’t really do.

This type of market can move to different geographical locations and within different asset classes because we’re charging for message traffic just as a telecoms business does. As far as we’re concerned in managing an exchange, we are simply managing message traffic and the more messages there are, the higher the costs. It’s not to do with the value being traded. So we want to match our customers’ costs to the exchanges’ costs, and if you can do that, you can allow the market to grow.

Have you thought about the potential impacts of HFT and excessive orders and cancellations?
Yes, absolutely we have. You will find if you look at your television or telephone package contract, that you will have a ‘reasonable usage policy’. So we too will have a reasonable usage policy as it is not in an exchange’s interest for anybody to have a huge quote-to-trade ratio. We want our model to allow for growth, but not furious unlimited traffic; which is not good for a market. That is handled within the ‘Market Abuse Directive’ – if a market is being abused, then you can monitor and control that your own way. We have applied for our MTF license and have discussed reasonable usage with the regulators.

“As far as we’re concerned in managing an exchange, we are simply managing message traffic and the more messages there are, the higher the costs.“

We have hosted subscription pricing forums with the market every six to eight weeks over the last six months or so. We have worked with the industry to find out exactly how and where they would like to price. Our initial pricing is simple: if you are a designated market maker making a two-way price consistently in the market, any passive order that you submit and any order you have or message you put on the system, doesn’t count as a message. That’s the simplest way of getting people to come to your market. Anybody else (who’s not a designated market maker and including the designated market makers) can send up to 25,000 messages a day for £2,500 a month. If they send more than 25,000 messages a day, then we will charge £10,000 a month.That price will go up as liquidity builds from £10,000 to £20,000 to £30,000 and eventually to £50,000. £50,000 will be the top rate for the next couple of years. We think the pricing is extremely beneficial and that we will be profitable because we own our own technology and we built it using a new design, which means we can operate and manage it extremely successfully at a lower cost. We’ve also sold the technology to another group in Africa and are in negotiations with others who are interested in buying the technology. So if you look at the two main costs of running an execution platform – start-up costs and technology – firstly, we own the technology and secondly, we don’t pay people in the same way, as our staff share in the company’s equity so they are incentivised through that equity share. We believe these factors will make this project a success.

What’s your timeline going forward?
FCA approval is essential. We are in the process of doing user acceptance testing so we have customers currently connecting to us. We are completing our second round of financing, which I believe will probably be our last round as we expect to be over-subscribed. Therefore we are on target to launch by the end of this year. But, I’ve been in this game for 35 years and I am more than aware of all we must achieve in order to be in business; regulation, new technology etc. We may have to push things back a bit but we’re certainly on target to make the fourth quarter this year.