Client Update: Chi-X granted new financial market operator licence
6 May 2011
In brief: The Australian Government has granted Chi-X Australia Pty Ltd a licence for the operation of a financial market for the trading of securities and certain financial products, in competition with the Australian Securities Exchange. Exchange market competition is aimed at promoting Australia as a financial services hub within the Asia region. Partner Robert Pick (view CV), Senior Associate Marc Kemp and Lawyer Scott Day discuss the introduction of Chi-X as an alternative market operator, the new Market Integrity Rules and the transition towards commencement of the Chi-X market.
Under new exchange market competition rules, more than one market operator may now offer secondary market trading services in equity market products that are admitted to quotation on the Australian Securities Exchange (ASX).
On 29 April 2011, the Australian Securities and Investments Commission (ASIC) published new Market Integrity Rules to provide the regulatory framework for competition in exchange markets (Competition MIRs) and Market Integrity Rules to regulate the operation of a Chi-X market (Chi-X MIRs).
On 4 May 2011, the Australian Government granted Chi-X Australia Pty Ltd (Chi-X) a licence to operate a market in Australia to provide secondary market trading services in ASX-quoted equity market products, in competition with the ASX.
Chi-X is expected to commence operations after October 2011.
Market participants generally will need to prepare to comply with the new Competition MIRs (including by complying with a 'best execution' obligation, disclosing pre-trade and post-trade information, and reporting on crossing system activity).
Market participants intending to connect to Chi-X will also need to amend their order routing and back office systems and prepare to comply with the Chi-X operating rules and Chi-X MIRs.
Clients of market participants
ASIC notes that, based on overseas experience, the introduction of competing exchange markets in Australia may improve market quality (including market depth, liquidity and price information), result in faster and more efficient trading from improved technology, and reduce costs. Clients are also expected to benefit from new protections, including the 'best execution' rules and extreme price movement controls.
The Australian Government anticipates that the benefits of exchange market competition for clients will enhance Australia's reputation as a financial services hub within the Asia region.
Chi-X will not compete for listings on the ASX. Issuers of securities will continue to deal solely with the ASX in relation to the listing rules and continuous disclosure obligations.
Chi-X is a wholly owned subsidiary of Chi-X Global, Inc. which operates similar secondary market platforms in Canada, Japan and Singapore. Chi-X Global is a subsidiary of the Japanese banking corporation, Nomura Holdings, Inc.
S&P/ASX200 index securities and exchange traded funds
According to ASIC, Chi-X intends to begin operations with a small number of the most liquid securities that are quoted on the ASX, expanding later to include all other securities in the S&P/ASX200 index and exchange traded funds.
Clearing and settlement
ASIC has noted that Chi-X intends to use the trade acceptance service of ASX Clear (the ASX clearing facility) for clearing and settlement.
Transition period for market participants
Chi-X is expected to commence operations after October 2011. Market participants are not required to become participants of Chi-X but if, by October 2012, a market participant considers that connecting to Chi-X will allow it to comply with its 'best execution' obligation, it must take the necessary steps to use Chi-X.
There are three layers of Market Integrity Rules that provide the regulatory framework for a competitive exchange market environment: the Competition MIRs (which apply to competing markets dealing in ASX-quoted products), the Chi-X MIRs and the ASX Market Integrity Rules (ASX MIRs).
Market participants that are members of both the Chi-X market and the ASX market must comply with both the Chi-X MIRs and the ASX MIRs.
The Competition MIRs set the framework for introducing competition in equity exchange markets. These rules apply to trading on all competing markets (including ASX and Chi-X). ASIC Regulatory Guide 223 provides background to the Competition MIRs and sets out ASIC's expectations of compliance by market participants.
The Competition MIRs provide for the following important safeguards (among others):
- Extreme price movement controls: Chi-X, as market operator, must implement controls to minimise the risk of a single order executing at an anomalous price, and provide mechanisms for detecting and addressing such incidences.
- 'Best execution' obligation: This requires market participants to direct client orders to the market that will deliver the best outcome, which means the best total consideration for a retail client. For wholesale clients, other outcomes may be relevant, including speed and certainty of execution of the trade. The best total consideration may be interpreted as 'best price' where there are no material differences in transaction costs between licensed markets.
Market participants must have appropriate policies and procedures to comply with the 'best execution' obligation; disclose certain information about execution arrangements to clients; review and monitor the effectiveness of execution arrangements; and demonstrate compliance with those arrangements.
- Pre-trade and post-trade information obligation: Market participants must maintain complete, accurate and up-to-date pre-trade and post-trade information, and make this information available on reasonable commercial terms on a non-discriminatory basis.
- Reporting for crossing systems: Market participants that operate crossing systems on a licensed market must notify ASIC of the details of the crossing system before the system begins operating, and provide monthly reports to ASIC on activity on the crossing system.
The Chi-X MIRs are specific to the Chi-X market. They are substantially similar to the ASX MIRs, but exclude rules relating to derivatives because Chi-X will not initially provide derivatives trading.
ASIC Regulatory Guide 224 provides background to the Chi-X MIRs and sets out ASIC's expectations of compliance by Chi-X market participants.
The ASX MIRs have not changed. Market participants not intending to connect to Chi-X should still review their compliance with the new Competition MIRs.
All market participants should ensure that they will have the systems and processes in place to comply with the new Competition MIRs and (if they propose to access Chi-X, or are required by their 'best execution' obligation to access Chi-X) the new Chi-X MIRs.
- Robert PickPartner,
Ph: +61 3 9613 8721
- Stuart McCullochPartner,
Ph: +61 2 9230 4420
- Andrew PascoePartner,
Ph: +61 8 9488 3741
- Andrew KnoxPartner,
Ph: +61 7 3334 3356
- David WengerPartner,
Ph: +852 2903 6256
Ph: +976 7711 0231