Savvy Wall St. Vets May Look North to Canada for Spreads

How do you benefit from the past? Find a market that has yet to experience what you have. Take Canada, for instance. Alternative trading systems (ATS) didn't exist until four years ago and didn't really get up and running until 2007. Even then, would-be participants had no incentive to jump in since regulatory legislation didn't kick in until November 2009. Consequently, many Canadian firms didn't see cause to invest in the technology to compete on this level. The appetite for alternative market trading languished.

The result: ATS opportunities abound in the Canadian market as it begins to warm up to the dizzying world of multiple networks, those dog fights for order flow, nerve-rattling hyper-speed trade executions, dark pool fishing and sizzling arbitrage possibilities that Wall Street has pretty well mastered.

"Canada is a little late to the party, which makes it the sweet spot in the marketplace," says Eric Stoop, Chairman of Omega ATS, a fast-rising ATS provider in Canada. But now, Canadian brokers "are compelled to connect to us for client advantages like price integrity, best execution, even if the difference between the best bid or offer amounts to just a fraction," says Stoop.

Despite entering the market in 2007, Omega today reports an incredible 1,134 percent increase in trade volume over the previous year, ending in July 2009. Mike Bignell, Omega's president and CCO, who just joined the company six weeks ago, credits the company's technological edge: hardware from Sun/Solaris, Dell and Cisco/ASA, to name a few, and the proprietary matching and trading engine they use that was developed by Orbixa.

Omega, at an average trade volume of only 3,307,005, on average trades of 6,757 in June, is still way behind powerhouses like Alpha Trading Systems (ATS). With just 15 – 20 percent of the market share, ATS logged over 3 billion in volume on average trades of 5,359,085 in the same period. Liquidnet, Seth Merrin's NY-based network serving the institutional investor community, saw a 50 percent increase in ATS trading over Q2 2010, at its Liquidnet Canada operation, over the previous quarter. Liquidnet's average share volume was up 66 percent for the quarter year-on-year.

Canadian legislators, in November of 2009, gave IIROC (Investment Industry Regulatory Organization of Canada), the Canadian self-regulatory organization, more teeth to enforce trading rules. "This essentially forced members of IIROC to either subscribe to all ATS’s or make arrangements to ensure access in the event that a trade was executed on a protected marketplace (an ATS) at a better price than the market they were subscribers to," explains Stoop.

What you have as a result are inefficiencies that can be exploited, as they're continuously eliminated. They are the opportunities, Stoop says, a maturing marketplace presents. "There are some good spreads available here. Innovation is driving better efficiencies. These are the years in between which won't last, since the business of trading creates more efficient trading."

Is this good for savvy traders but bad for U.S. markets? Will Wall St. lose order outflow to Canada?

"Although we're not specifically focused on northbound clients, we are gaining order flow from there," acknowledges Stoop. "The value adds we hope to begin to introduce in the near term will not only benefit the higher frequency northbound traders but will have equal benefit to retail traders in Canada and their clients as well.”

Maureen Nevin Duffy is a freelance financial journalist based in New Jersey.