The Toronto Stock Exchange is by far the dominant stock exchange in Canada. As of this month, the TSX, TSX Alpha and the TSX Venture Exchange accounted for 72.1% of the volume in Canadian equities, according to data from parent company TMX Group Ltd. (X).
Now, however, there is new competition for the TSX. It comes from the upstart Aequitas NEO Exchange. Backed by large institutional investors such as OMERS Capital Markets, Barclays and CI Investments, Aequitas NEO seeks to create what it says is a better market both for investors and listed companies in the light of concerns about high-frequency trading, access to market data and liquidity on the TSX.
The exchange, which started trading in March 2015, isn't a household name yet, but it has taken 2.8% of Canadian equity trading volume since its inception. It trades all TSX and TSX Venture equities, and is accessible to investors via major online trading platforms.
Jos Schmitt, CEO of Aequitas, says NEO is about "giving the investor and the issuer a better experience." Schmitt, a financial-industry veteran who previously headed up the Alpha Exchange before it was taken over by TMX Group, says four values motivate the operation of Aequitas NEO: fairness (ensuring a level playing field), liquidity, transparency and efficiency.
Aequitas NEO maintains that its exchange is better for investors, and it points to data to make its case. For example, a chart produced based on information from ITG Canada (a NEO shareholder) suggests that traders using Aequitas receive more reliable quotes than on the TSX. Aequitas argues that on exchanges where high-frequency traders have an advantage, orders placed by regular investors at prevailing prices are often cancelled in milliseconds by these speedy players who detect slower participants' activity. As a result, liquidity that appears to be available can vanish in an instant.
"We have the most reliable quotes in Canada," Schmitt says. He points to NEO innovations such as the introduction of a so-called speed bump, which protects investors from high-frequency traders having an advantage. With a speed bump, orders are delayed by a split second, which is intended to prevent traders from "front-running" -- the ability to detect filled orders from investors with slower access and trading ahead of them. For example, if an investor has an order to buy 5000 shares and has been filled on the first 1000, the speed bump delays letting other potential sellers know so they don't pull their existing orders and raise ask prices.
Schmitt also argues that his exchange's "matching models" favour longer-term investors over traders employing high-frequency strategies. The model gives priority to existing retail and institutional investor orders over those entered more recently by high-frequency traders. According to NEO, 50% of trades on its platform are between long-term investors.
Needless to say, the TSX does not agree that NEO is the better exchange. Kevin Sampson, managing director of equity trading at TMX Group, says that when it comes to the larger exchange and the newcomer, "there's not even a comparison. We have the deepest, broadest liquidity in the country."
As with Aequitas, the TSX marshals statistics to position itself as the premier exchange in Canada, pointing to data showing that securities on its exchange trade at what's known as the "National Best Bid and Offer" far more often than NEO. "The TSX is the best price 94% of the time," Sampson states.
When it comes to market makers -- specialists who provide liquidity to investors by buying when a seller wishes to exit a position, and selling when someone is looking to buy -- the TSX suggests it leads this category as well. The exchange says nearly all its listed securities have a designated market-maker, whereas Aequitas only has one for approximately half of TSX-traded issues.
What does this mean for ETF investors?
The competition between the TSX and NEO is not simply for the trading of TSX-listed securities. Indeed, some major ETF providers have recently listed their products exclusively on the new exchange. The first such security, the PowerShares DWA Momentum ETF (DWG), launched on March 22, 2016.
February has been NEO's busiest month by far for new listings, going back to its inception. Five ETFs from BlackRock's iShares started trading on Feb. 22, including products focused on Canada, the U.S., Japan and emerging markets. In addition, on Feb. 28 BMO Global Asset Management launched three ETF mandates tied to U.S. Treasury Bonds.
Warren Collier, head of BlackRock iShares in Canada, explained to Morningstar the rationale for listing the ETFs on NEO: "It's consistent with what we do globally. We believe that diversifying our listing counterparties is prudent in general. We think it gives us direct experience with multiple ways of dealing with different aspects of the marketplace," Collier said. "We think globally that competition in capital markets is good, and where there are robust alternatives to compete with each other we like to foster that competition."
Even though they have listed the five ETFs on NEO, the vast majority of BlackRock's more than 100 iShares ETFs in Canada are still listed on the TSX.
Collier says that for the individual investor, the presence of the new exchange won't alter the experience of investing, at least in the short term. "At the end of the day, I don't think a retail investor will notice any difference out of the gate. Everything should look and feel exactly the same. The process for buying or selling ETFs through a direct platform or through your advisor will remain exactly the same."
As time goes on, though, he remains optimistic that competition among exchanges will serve to benefit the investor. "We would expect that we and other ETF providers will learn things from NEO that the TSX is not doing and vice versa, and we'll be able to take those best practices and we would expect the market just to get more robust, to see both marketplaces get more efficient, and over time this will be good for investors."
