FCA consults on functioning of equity secondary markets

The FCA has published a consultation on proposals aimed at improving the functioning of equity secondary markets (CP22/12). The proposals include changing aspects of trade reporting, waivers from pre-trade transparency and the tick size regime, and replacing the systematic internaliser (SI) status criterion for establishing when an investment firm is required to report transactions with a new designated reporter regime.

This consultation paper forms part of the Wholesale Markets Review (WMR) conducted by the FCA and HM Treasury (HMT). It also supports the objectives set out in the FCA's Strategy 2022‑2025 and Business Plan which included a commitment to strengthen the UK’s position in wholesale markets, including developing proposals to improve the functioning of equity secondary markets.

The proposed reforms concern parts of the regime that are already set out in regulatory rules and guidance and are not contingent on changes that are intended to be implemented via legislation (see Next steps below).

Key proposals

Post-trade transparency – The FCA proposes to simplify the trade reporting regime by:

• expanding the list of transactions that are exempt from post-trade transparency when these are undertaken over the counter (OTC);
• adding an end of day deferral for the list of exempted transactions under Article 13 of RTS 1 when these are undertaken on venue;
• simplifying the structure of the FCA Handbook by deleting repetitions and overlaps between similar types of technical trades; and
• simplifying the use of identifiers or flags attached to trade reports to enhance their information content and facilitate consolidation of data from different sources.

The FCA is not consulting on the calibration of thresholds for large trades or the length of the deferral regime but will consider in due course whether changes to these elements are necessary to improve equity markets. If power is delegated to the FCA through legislation, it also plans to consider which changes to pre-trade transparency would improve market integrity and efficiency.

Designated Reporter Regime – The FCA proposes simplifying the reporting of OTC transactions for all classes of financial instruments by deleting the condition requiring an investment firm to publicly report transactions in instruments for which it is an SI. Instead, it plans to introduce the Designated Reporter Regime where firms voluntarily assume the obligation to trade report when trading with their clients in any instrument they deal with.

By separating post-trade transparency from the SI status, investment firms will be able to rely on a simpler way of determining when they need to report OTC transactions. While the current regime requires firms to check on an instrument-by-instrument basis whether they have a reporting obligation, the proposal should simplify the register of reporters and provide investment firms with greater certainty as to who is responsible for reporting. This may also lead to lower operating costs.

Waivers from pre-trade transparency – CP22/12 proposes allowing dark pool trading venues operating under the reference price waiver to derive the reference price from non-UK primary markets when matching orders in overseas shares, provided those prices are robust and transparent. By allowing UK trading firms and investors to have access to dark pools in the UK as well as those overseas, the FCA expects that this will lead to improved execution quality.

The FCA also proposes removing the minimum threshold of €10,000 for reserve/iceberg orders that trading venues must comply with when using the order held on the order management facility waiver. Trading venues will be free to set their own thresholds for iceberg orders. The FCA hopes this will result in lower overall cost of trading for market participants.

Tick size regime – The FCA proposes changing current rules to permit UK equity trading venues to adopt the tick size of the most liquid overseas venue when the tick size in that market is smaller than the one determined on the basis of data from UK venues. The FCA hopes this will allow investors to trade shares at tighter spreads and lower costs than currently possible, as well as providing greater choice and access to trading in overseas shares for UK investors.

Resilience to outages – The consultation also seeks views on what future guidance should cover in relation to the operation of markets before and during an outage.

UK market for retail orders – The consultation does not propose rule changes linked to the execution of retail orders for shares but seeks views on whether the Retail Service Provider (RSP) system works well for retail clients and whether there are ways to improve best execution for retail orders while enhancing the efficiency and liquidity of public markets.

Next steps

Equity secondary markets:

• Responses to CP22/12 are requested by 16 September 2022. Once the FCA has considered responses to the consultation, it will submit updated technical standards to HMT for approval. Once approved, the FCA will publish a policy statement and amend the technical standards.
• The FCA intends, in due course, to consider whether a broader review is necessary of equity markets in other areas covered by its existing powers or for which it will receive new powers, subject to parliamentary approval, as part of the outcomes of the Future Regulatory Framework Review.

Wider WMR:

• HMT confirmed in March 2022 that the government intends to deliver some of the proposals contained in the WMR in this year's Financial Services and Markets Bill (Bill). Originally expected before Parliament goes into summer recess on 21 July, there is a chance the Bill may now be delayed until the autumn.
• In the hope that a staggered approach will allow firms to absorb and respond to its proposals in a more manageable way, the FCA plans to implement the WMR by consulting on topics in different stages:
  • The FCA is consulting first on changes to the requirements that it already has the power to implement because they relate to parts of the regime that are already set out in regulatory rules and guidance and that the FCA does not expect to be materially affected by the changes to primary legislation in the Bill.
  • The FCA intends to consult on other reforms covered in the WMR which are more closely linked to changes to legislation over the course of 2022 and 2023.