The new tick size regime under MiFID II: a balancing act

By Christer Wennerberg, Senior VP Market Structure Strategy
February 23, 2016
Share:

The tick size is the smallest increment permitted in trading a security. It can be seen as the price of time priority in the order book. A small tick size equals a low price to get ahead in the queue; a large tick size equals the opposite. This makes tick size an important parameter in the market micro structure. Setting the “right” tick size is difficult, however; the “Laffer curve” sometimes used to describe the expected effects of taxation arguably applies to tick sizes as well.   

– Too small tick size => the value of time priority decreases which leads to lower liquidity in the order book.

– Too high tick size => the spread cost is considered too high and may result in lower turnover velocity.

Furthermore, the task of finding the right tick size is rather futile, since the ideal definition differs between investment firms.

Before MiFID applied in 2007, each exchange could decide on their own tick size without worrying about other venues, since all trading was in practice concentrated to the incumbent exchanges. At one point, 25 different tick size tables were used in Europe. When fragmentation started to take off after MiFID, one of the drivers was the fact that the MTFs implemented lower tick sizes than the incumbents. The use of Smart Order Routers, together with the Best Execution requirement, “forced” the order flow to the MTFs with the lower tick sizes than the incumbents. The result was a “race to the bottom” and a negative impact on market quality.

Finally in 2009 this lead to an agreement between the trading venues, through the Federation of European Stock Exchanges (FESE), to introduce a common tick size table (“FESE-2”) for the most liquid stocks. This short-lived agreement lasted until the beginning of 2011, when Euronext announced that they would use a more granular table for their most liquid stocks (“FESE-4”). Deutsche Börse soon followed with a tighter tick size table than the agreed FESE-2.

Against this background, it is no surprise that regulators now suggest centrally governed tick sizes. We now know the scope of the new tick size regime, but what consequences can we expect? Will the proposed changes find the right balance between spread cost and order book depth? 

This article provides an overview of the new tick size regime under MiFID II and its possible consequences. 

Read our MiFID II guide

Related Content

MiFID II in action: half-year review

MiFID II in action: half-year review

Risk & Compliance Roughly six months after the introduction of MiFID II, Johannes Frey-Skött – VP Apps Engineering, Itiviti – talks to The TRADE about the short-term impact of the regulation on European market players, looking at both the positive and negative effects witnessed so far. He also outlines current pain points in MiFID II compliance and the […] July 17, 2018

MiFID II: the need for a centralized messaging platform

MiFID II: the need for a centralized messaging platform

Risk & Compliance With the pressure of initial implementation now a distant memory, MiFID II-regulated firms are turning their attention to the real work required to create sustainable long-term solutions. For many, the race to meet the January 3 deadline meant implementing temporary compliance processes that were far from perfect. Unless updated and improved, these could lead to […] July 10, 2018

Jitneytrade client connectivity case study

Jitneytrade client connectivity case study

Risk & Compliance What happens when one of the top 10 active brokers in Canada is confronted with: Stringent risk control requirements for electronic trading Time-to-market imperative to supersede TMX’ monitoring service termination Need to consolidate 14 internal trading platforms into a central gateway for enterprise-level risk management Optimization of latency and access speed for client connectivity Download […] June 26, 2018

The new Itiviti

The new Itiviti

Execution Following the merger between Itiviti and ULLINK in March 2018, Richard Bentley – Chief Product Officer of the combined company – talks to The TRADE about the new company at IDX London 2018. On the agenda: the rationale behind the merger, the company’s individual and combined strengths, product strategy going forward, key priorities for the […] June 11, 2018

Itiviti Talks

Get our view on global capital markets

Subscribe

Subscription successful

Thank you for subscribing!

Close window

Itiviti Talks

Get our view on global capital markets

Weekly email

    Trends in global capital markets from a technology perspective.

By submitting this form, you acknowledge that data collected by us will be handled in accordance with our Privacy Notice.