Money managers are stepping up their late-day efforts to trade stocks in the United States and Europe, raising concerns that the surge in activity could leave some of the world's largest stock markets heavily exposed if they malfunction.
The share of daily trading in EU stocks that takes place during end-of-day auctions reached a record 29% in the first quarter, according to analytics firm big xyt. This figure compares to 22.5% in the first quarter of 2021, the data provider said. The closing auction is a 5-10 minute period during which the final stock prices for the day are set.
Europe's strong rise was mirrored in the United States, where 19% of stock trading took place at stock exchange closing auctions in the three months to March, compared with 12.5% in the period 2021, said Big XYT.
Investors focusing on closing deals in the final minutes of the day raised concerns that the late surge would leave exchanges vulnerable if they hit a slump.
The end of the day was separating itself completely from the rest of trading, according to a senior European exchange official, who added that the exchange was beginning discussions with major banks about the systemic risk of the last five minutes and was questioning its own market concentration risk.
The boom in trading around the closing auction has been largely fueled by the growing popularity of exchange traded funds and passive investments, which are referenced based on the closing price of the indices. This increased activity means that active fund managers, trying to outperform benchmarks, can also move large blocks of stocks without their trades being detected by high-speed traders.
The importance of passive investing is particularly pronounced on days when major indices are rebalanced. On May 31, U.S. index provider MSCI rebalanced its indices, which resulted in 68% of European stock trading and 43% of U.S. stock trading at the close of that day, according to Big XYT.
Trading executives are primarily concerned about the impact of a breakdown during the closing auction, such as the one that hit European exchange group Euronext in October 2020.
The nightmare scenario for the market is an exchange outage on the day of a major index rebalancing that would prevent the incumbent from conducting its closing auction, said Natan Tiefenbrun, president of North American and European equities at Cboe Global Markets.
The UK's Financial Conduct Authority said it was aware of the increased activity at closing auctions and was assessing how venues should handle outages as part of its review of secondary markets.
The more concentrated trading is… at any given time, the more important it is to manage operational risk, the European Securities and Markets Authority, the pan-European regulator, said. It added that it was monitoring the impact of closing auction trading on price formation.
Executives also worry that the increased activity is sucking liquidity out of the rest of the trading day, which lasts eight hours in Europe and six and a half hours in the United States.
The closing of the auction is now massive, said Kevin Tyrrell, head of equities at the New York Stock Exchange. The opening is more difficult, he said, adding that the NYSE is actively working with institutions to increase participation.
Traders warn that the decrease in activity has made trading more difficult. The shift in volume has led to wider intraday spreads and increased volatility in continuous trading, said a senior trader at a fund manager.
Large trades are also becoming more visible, he added. Anything that represents 3 or 4 percent of our daily volume is detectable by high-frequency traders, and the market moves away from you, the trader added.
“It’s a feedback loop,” Tiefenbrun added. Greater liquidity at close incentivizes people to make more trades at close.
