How beneficial has competition been for the Australian equity marketplace?

Transcription

1 How beneficial has competition been for the Australian equity marketplace? Michael Aitken ᵵ, Haoming Chen ᵵ and Sean Foley 1 ᵵ Australian School of Business, University of NSW, Australia 1 Finance Discipline, Faculty of Business, University of Sydney, Sydney, 2006, Australia This Version: 24 th May 2013 Abstract This paper analyses the introduction of competition to the Australian equities market. The event of interest is the entry of the Chi-X marketplace and the impact it has on market quality. We define market quality by reference to the universal mandate of securities regulators which require that all market design changes, such as the authorisation of a new marketplace, must improve (or at least, not detract from) market efficiency and market integrity. We provide evidence that market efficiency, as proxied by transaction costs and price discovery, are improved in the wake of competition. We also argue that the market surveillance changes that accompanied the introduction of competition maintained market integrity, allowing us to conclude that the introduction of competition to the Australian equity market has enhanced market quality. We estimate the welfare affects to be between $36-220m to market participants in the first year alone. Our results confirm the theoretical findings of Foucault and Menkveld (2008) that reduced explicit fees alone are sufficient to reduce quoted spreads, as these savings are passed on by liquidity providers. We are also able to identify that the majority of spread reductions are caused by queue-jumping strategies due to the lack of time-priority between markets. We are able to show that such activity not only causes increased competition between liquidity suppliers, it also increases the extent to which markets become locked or crossed allowing traders to buy and sell at the same price. 1 Contact Author, Finance Discipline, School of Business, University of Sydney, 2006, Australia: Tel (+612) ; [email protected]. The authors would like to thank the CMCRC for funding assistance and thanks SIRCA for access to data.

2 1. Introduction The accessibility and affordability of technology combined with the will of regulators to inject competition into securities markets has led to fragmentation, with the proliferation of alternate trading venues, such as Chi-X, into markets that had historically lacked competition. Whilst this competition can put downward pressure on explicit trading fees, the network externalities of trading suggest consolidation is the optimal structure for liquidity (Di Noia, 2001). Additionally, the increased cost of regulating fragmented markets is more frequently being imposed on market participants, 2 leading many to question whether such fragmentation is in fact beneficial. This paper analyses the 2011 introduction of Chi-X into the Australian equities market. As part of identifying the impacts of fragmentation on market efficiency, we quantify the cost savings arising from reduced implicit and explicit costs of trading. We then compare these to the additional costs competition has imposed, including the increased costs of regulation and of broker connection to the new marketplace. Securities exchanges, market participants and regulators are interested in market quality, which Aitken and Siow (2003) argue must be evaluated in terms of the universal mandate of regulators to ensure that markets are both fair and efficient. In this paper we examine the efficiency of the Australian market, which can be further decomposed into transaction costs and price discovery (O Hara and Ye, 2011). 3 As a metric for transaction costs, we consider the impact Chi-X s introduction and proliferation has had on effective bid ask spreads in the consolidated market, allowing us to quantify the impact of the introduction of Chi-X on market participants. We also analyse the impact of the new exchange on volatility and autocorrelation metrics as part of understanding the impact of the new market on price discovery. Studies such as O Hara and Ye (2011) in the US and Foucault and Menkveld (2008) in Europe have found that competition has reduced both explicit and implicit transaction costs. As such, they have primarily assessed the impact of competition on market efficiency as proxied by transaction costs. We argue that these studies miss important aspects of the evaluation process which relate to the impact of competition on market integrity as well as additional aspects of market efficiency such as price discovery which are required by the universal mandate of regulators to ensure that all market design changes pass the dual test of fairness and efficiency. 2 See for example, the ASIC Market Supervision Cost Recovery scheme and the IIROC cost recovery regulations in Canada. 3 These metrics arise from a definition of market efficiency which requires that an efficient market be cheap to trade (the cheaper the better) and that the price at which one is trading reflects all available information.

3 The two main findings of our study are that competition reduces transaction costs for a range of Australian equities, with effective spreads reducing more as fragmentation increases; and that the presence of interexchange competition is harmful neither to liquidity provision nor to the price discovery process. Foucault and Menkveld (2008) postulate that there are two mechanisms by which spreads may become lower in the presence of competition competition between market makers duplicating their limit order schedules across marektplaces and reductions in explicit costs generated as a result of competition reducing the order processing costs of the spread, allowing market makers to reduce their quoted spreads. We test the theories of Foucault and Menkveld (2008) and show that reductions in explicit transaction costs alone are sufficient to reduce spreads overall, observing lower quoted and effective spreads at the same time as reduced quoted volume at the national best bid and offer. We also identify an additional mechanism by which effective and quoted spreads may be reduced the ability of Australian markets to become locked with the best bid on one exchange equal to the best ask on another, or even crossed where the best bid on one exchange is higher than the best ask. The granularity of our data enable us to identify the portion of the day for which spreads are locked or crossed. We find that the introduction of Chi-X has significantly increased the portion of the day for which the market is constrained, locked or cossed. Finally we canvas some of the changes to the integrity of the marketplace that the introduction of Chi-X has sparked and conclude that these changes have at worst maintained the level of market quality, although these elements are not directly quantified. The paper is organised as follows. Section 2 outlines the institutional details of the Australian market that led to the entry of Chi-X. Section 3 reviews related literature. Section 4 discusses the data and research design employed. Section 5 presents summary statistics and results of our empirical analysis; Section 6 tests the robustness of our findings. Section 7 quantifies the total welfare implications for market participants and section 8 concludes. 2. Institutional Details 2.1 ASX and Chi-X Market Structures The Australian Securities Exchange (ASX) conducts the listing, trading, settlement and clearing of Australian equities and other financial securities. It was created from the merger of the Australian Stock Exchange with Sydney Futures Exchange in The Australian Stock Exchange had previously been formed through the amalgamation of six independent state-based exchanges in 1987, a process that was facilitated by the introduction

4 of the Stock Exchange Automated Trading System (SEATS), one of the first fully-automated trading systems globally. 4 The ASX held a virtual monopoly in the local trading of Australian equities since its formation until the 2011 introduction of Chi-X. As at December 2012, the ASX was the tenth largest equities market by market capitalisation, trading $1.336 trillion per year and providing a secondary market for 2056 listed companies. Average daily trading turnover on the electronic order book during 2012 was $3.57 billion. 5 The ASX has three minimum tick sizes for listed stocks, which form the lower bound on quoted bid ask spreads. These tick sizes vary depending on the security s price, being 0.1c for shares priced below 10c, 0.5c for shares priced from 10c to $2 and 1c for shares priced above $2. 6 Chi-X Australia (Chi-X) is an alternative trading venue for ASX listed securities. Chi-X s parent company, Chi-X Global Holdings, is owned by a syndicate of financial institutions led by Nomura. Trading occurs from 10:00 am to 4:12 pm in a continuous order driven market. No opening or closing auction occurs, with order entry only possible from 10:00am. This results in Chi-X beginning to trade selected securities prior to the ASX opening auction. The ASX conducts and maintains a monopoly on settlement and clearing functions. In the Australian market, Chi-X conducted a segmented rollout of tradeable securities. Six highly liquid stocks (BHP, CSL, LEI, ORG, QBE and WOW) and two ETFs (STW and ISO) began trading in a soft launch on the 31 st of October The remaining ASX200 constituent stocks and ASX listed ETFs became eligible to trade on Chi-X on the 9 th of November Trading in a further 47 ASX listed stocks was introduced incrementally from December 2011 to November On the 3 rd of May 2013 Chi-X expanded trading to encompass the entire universe of ASX listed securities. Table 1 summarises the key events in the introduction of competition to the Australian landscape. < Insert Table 1 here > Figure 1 documents the evolution of Chi-X s market share in Australia since its introduction. Similar to the evolution of Chi-X as a secondary exchange globally, market share in Australian equities began at a very low level, remaining below 2% of total daily turnover in its first 6 month of operation and not exceeding 5% until August Chi-X 4 For more information on the microstructure of the ASX, see Frino, Lecce and Segara (2011). 5 World Federation of Exchanges Monthly Reports, available at 6 ASX Pricing Information (Tick Sizes) is available at

5 Australia s share of daily turnover exceeded 10% in late 2012 and on the 31 st of January 2013 Chi-X held a 10.15% market share in the trading of Australian equities. < Insert Figure 1 here > 2.2 Explicit Trading Fee Comparison On the 1 st of July 2010, after the announcement of Chi-X s intention to establish a competing exchange in Australia, the ASX reduced fees for the trading services which would be subject to competition. 7 These changes are documented in Table 2. Services such as the opening and closing auctions (which did not face competition) experienced no reduction in fee. Chi-X s fee structure from market launch was 0.06bps for passive order execution and 0.12bps for active order execution. < Insert Table 2 Here > 2.3 ASIC Cost Recovery Scheme As part of the introduction of competition to Australia, it was considered necessary for the supervisory function of markets to be transferred from the ASX to the Australian Securities and Investments Commission (ASIC). The reason for this was straightforward. The introduction of a fragmented market left open the opportunity (as in Europe) for traders to split their trading across markets in order to hide potential incidences of insider trading and market manipulation. Setting up a centralised surveillance authority enabled the fragmented market to be reconsolidated for surveillance purposes, significantly reducing the incentives for traders to engage in such manipulative conduct. Compared to Europe, where we would expect market integrity to reduce in the presence of fragmentation, the centralisation of the regulatory functions in the Australian market do not result in the same incentives, leading to the conclusion that market integrity would remain unchanged in the wake of competition. As part of the move to a consolidated regulatory tape, ASIC implemented a market supervision and competition cost recovery scheme to recoup costs incurred in establishing the new regulatory framework and infrastructure. This framework allows provisions for the introduction of competition between exchanges in Australian equities, as well as a number of other operational upgrades. It seeks to recoup a total of $29.77 million between the 1 st of 7 ASX Market announcement on 3 June 2010, available at

6 January 2012 and the 30 th of June Table 3 documents the breakdown in the allocation of the funds ASIC is recovering from market participants. < Insert Table 3 Here > Of the costs in Table 3 accruing to market participants, non-it costs of $14.92 million and IT costs of $7.89 million will be allocated proportionally based on the number of transactions and the number of messages respectively, similar to the IIROC cost recovery program undertaken as a result of increased message traffic in Canada. 9 Of the $700,000 market operator specific costs allocated to establishing real-time surveillance and data connectivity, $434,558 is attributable to Chi-X and $265,862 to ASX PureMatch. Similar to the Canadian equities market, where inter-exchange competition has existed since 2007, but a cost recovery scheme has only been introduced recently, these expenses may not be entirely attributable to competition. Whilst explicit costs of less than $500,000 are allocated to the regulation of Chi-X, we err on the conservative side and attribute the entire increase in regulatory expenses as costs associated with the introduction of competition. Notwithstanding, the net results still suggest that competition has been beneficial for the total welfare of participants in the market. 3. Literature Review Three main areas of literature are relevant to identifying the impact of competition on market participants. The first deals with bid ask spreads (a proxy for market efficiency) as an element of implicit transaction costs and identifies variables which influence the level of spreads per stock. Whilst these variables allowed cross sectional comparison of bid ask spreads under consolidated and fragmented market structures, the optimal level of fragmentation was not directly addressed. The metrics developed in this early literature were then utilised in a second strand of literature to assess the impact of competition between brokers and separate listing venues. The recent introduction of regulation to foster competition and promote order flow fragmentation in the US and European equities markets has generated a third strand of literature dealing with the explicit impacts of inter-exchange competition on market quality. However, in nearly 8 ASIC Market Supervision Cost Recovery Impact Statement, available at 9 See Malinova, Park and Riordan (2012) for a description of this regulation.

7 all of these cases market quality has been restricted to look at market efficiency only and within market efficiency, primarily transactions costs. As previously indicated this does not accord with the view of market quality as outlined in the universal mandate of regulators Accordingly, we extend this literature to analyse the impacts of competition not only on transaction costs but also on price discovery (the two essential elements of market efficiency) as well as market integrity to provide an appreciation of the impact of competition on the total welfare for market participants. 3.1 Determinants of Bid Ask Spreads In the market for transacting financial securities, costs include both explicit fees (such as brokerage, clearing costs and the cost of connecting to marketplaces) and the implicit cost of crossing the spread. Bid-ask spreads were first modelled as a cost of transferring title to securities, both theoretically and empirically, in Demsetz (1968). For a cross section of NYSE stocks, spreads in dollar terms were found to be positively related to price per share and negatively related to the number of shareholders and transactions per day. As these two variables are proxies for trading volume, Demsetz (1968) argues that economies of scale exist in share trading, implying that natural monopolies may exist in securities exchanges. Demsetz (1968) also finds competition through listing in outside markets does not have a significant impact on quoted spreads. Benston and Hagerman (1974) modelled bid ask spreads as the price of immediacy. They applied economic demand theory from the dealer s perspective to decompose spreads into costs associated with inventory holding, order processing and adverse selection. They test this theory empirically for a randomly drawn sample of OTC stocks, finding that spreads are positively related to unsystematic risk, adverse selection and inventory holding costs. Additionally, spreads are found to be negatively related to the number of dealers and transaction volume, implying that competition reduces spreads and dealers are not natural monopolists. Benston and Hagerman (1974) do however allow for the possibility of economies of scale at the market level. Stoll (1978) extends this work by providing an explicit theory of dealer costs and their determinants, focussing on bid ask spreads for NASDAQ stocks in basis points, rather than in absolute dollar terms. Stoll (1978) links proportional spreads to price, volume, competition, turnover percentage and both systematic and unsystematic risk. These factors are found to account for 82% of the variation in spreads. The empirical literature on the determinants of bid ask spreads as a transaction cost was extended to the market for Australian equities by Aitken and Frino (1996). They find relative spreads are reduced with increased stock prices, as higher prices with constrained minimum tick sizes leads to lower proportional spreads. Spreads are also negatively related to volume, as competition for order flow with price-time priority forces bid ask spreads to

8 narrow. A positive relationship was found between spreads and volatility, indicating that greater price uncertainty leads market participants to demand more compensation for potential adverse selection or increased inventory holding costs in the form of wider spreads. Although Australian equities are traded in an automated order driven market, rather than a dealer quote driven market, Aitken and Frino (1996) find the determinants of spreads are similar to studies in US quote-driven or hybrid markets. Competition between venues is identified as a possible spread determinant, and with the introduction of Chi-X into Australia this is examined explicitly in the present paper. 3.2 Comparison of Bid Ask Spreads under Consolidated and Fragmented Markets Whilst the prior literature developed a number of stock-specific factors that constitute the determinants of the spread, a body of literature has developed that examines the potential impact on transaction cost of the competition for order flow, primarily between dealers and competing listing venues. Hamilton (1979) finds that market structure can have two competing impacts on transaction costs, with economies of scale reducing costs when markets are consolidated and competition between market centres reducing costs in fragmented markets. Securities exchanges may be natural monopolies, with significant economies of scale in clearing, settling and infrastructure provision due to the high fixed and low marginal costs of matching trades. Pagano (1989) finds that liquidity begets liquidity due to these network externalities, with order flow gravitating towards one single, dominant exchange. In contrast, Economides (1996) argues competitive forces are necessary to promote operating efficiency and ensure that exchanges do not behave monopolistically to earn excessive profits. This tension has led to the waves of fragmentation and consolidation seen since the 1960 s, typified in the US experience. A number of studies have attempted to quantify the impacts of competition on market quality but it is noteworthy that most of these studies constrain market quality to market efficiency and within market efficiency to transaction costs. Since the introduction of competition is rarely a clean experiment, many alternative situations have been analysed. However, no definitive consensus exists on whether fragmentation is beneficial for transaction costs. A number of situations have provided support for competition as beneficial for transactions costs. For example, Cohen and Conroy (1990) find that the introduction of regulation allowing exchange members to make off-board markets in NYSE stocks resulted in narrower relative bid-ask spreads. Battalio (1997) shows that the entry of Madoff Securities, a third-market broker dealer, results in a reduction of bid ask spreads for NYSE listed securities. Domowitz et al. (1998) finds that international cross listing and competition for

9 order flow in Mexican stocks decreases bid ask spreads in the domestic market. DeFontnouvelle et al (2003) analyse changes in US options markets which allowed exchanges to directly compete for order flow in options which previously held exclusivity in trading. They find that quoted and effective spreads decrease 30 40% immediately after multiple listing, though the declines revert marginally after one year. However, a large body of literature exists that finds the benefits of competition are outweighed by the costs. Bessembinder and Kaufman (1997) provide evidence showing that fragmentation allows cream skimming of uninformed traders on non-nyse markets, resulting in increased realised and effective spreads. Bennett and Wei (2006) demonstrate that after stocks voluntarily transferred listing from the NASDAQ dealer market to the more consolidated NYSE venue, average quoted, effective and realised spreads decreased significantly, providing evidence for the benefits of consolidation. They find liquidity improves most for stocks with the greatest increases in the level of consolidation in trading. A study of European stocks by Gajewski and Gresse (2007) find that spreads are lower under a centralised, consolidated electronic order-driven market than under a hybrid market, where orders are fragmented between an order book and competing dealers. It is possible the varying conclusions of these studies is due to the lack of an optimal natural experiment exposing the impacts of competition, such as exists with the introduction of competition into Australia, generating explicit competition between two trading venues. 3.3 Impact of Inter-Exchange Competition for Order Flow on Bid Ask Spreads Beginning with the implementation of Regulation National Market System (Reg NMS) in the United States in 2005; and the Markets in Financial Instruments Directive (MiFID) in Europe in 2007, a competitive environment for securities transaction services was established, facilitating the rapid fragmentation of global securities markets. With the increasing prevalence of smart order routing systems enforcing price priority between multiple markets, academic research has begun examining inter-exchange competition, order flow fragmentation and its impact on market quality, proxied primarily by transaction costs US Market Studies Reg NMS introduced significant changes to the structure of US equities markets, including an order protection rule enforcing inter-market price priority, ensuring orders are sent to the market with the best price. O Hara and Ye (2011) conduct the first empirical analysis of the impact of Reg NMS on transaction costs in US equities. 36% of NASDAQ and 23% of NYSE trading volume is found to occur through off-exchange trade reporting facilities (TRFs). Order flow fragmentation is found to reduce effective spreads as well as reducing the time from order receipt to execution. These results differ substantially from

10 Bennett and Wei (2006) although both studies analyse the US market. One potential reason for these differences is the way in which fragmentation is measured, with Bennett and Wei (2006) using trading venue as a proxy for market fragmentation, whilst O Hara and Ye (2011) use the more explicit percentage of order flow executed through TRFs. O Hara and Ye (2011) argue that although trading in US equities is fragmented across multiple venues, it benefits from virtual consolidation, as a single market with multiple points of entry due to smart order routing and the trade-through prohibition. They find that competition reduces transaction costs and enhances price discovery, with the benefits of competition outweighing any loss of consolidated trading s positive network effects European Market Studies Foucault and Menkveld (2008) analyse the liquidity impact on Amsterdam Exchange Index constituent stocks of switching from a centralised limit order market to a fragmented environment, with competition between two pure limit order markets occurring as a result of the introduction of LSE EuroSETS in Foucault and Menkveld (2008) provide a theoretical framework in which they show two mechanisms by which competition for secondary market order flow can reduce trading cots. The first involves the competitior exchange needing to charge lower explicit fees than the incumbent in order to attract order flow. This reduction in explicit fees is shown to reduce the order processing costs of market makers, allowing them to quote tighter spreads. The second mechanism involves the lack of time priority between venues. This allows market makers to queue jump by submitting orders to the competitor exchange. Such a mechanism provides an additional source of competition between the market makers, increasing national best bid and offer (NBBO) depth and potentially quoted spreads. Foucault and Menkveld jointly test these hypotheses in the Dutch market, finding consolidated depths significantly increase, with relative inside quoted spreads either narrowed or unchanged in the post entry period. They find that the more prevalent are smart order routers, which are able to obtain the best available prices regardless of venue, the greater is overall liquidity supply. Foucault and Menkveld (2008) argue that fragmentation may be beneficial only if trade-throughs are prohibited a feature that is not currently present in Australia. We provide evidence that the reduction in spreads observed by Foucault and Menkveld (2008) can occur without the necessity of increased competition due to the lack of time priority between venues. We show that the 2010 reduction in ASX fees ahead of the Chi- X introduction in 2011 was associated with a significant reduction in spreads, with spreads further declining with the introduction of Chi-X s lower fee schedule, notwithstanding the observed reduction in overall market depth.

11 The implementation of MiFID in Europe abolished the concentration rule and promoted competition between trading platforms. Chlistalla and Lutat (2011) analyse the impact of MiFID on French equities, where order flow has fragmented substantially as a result of Chi-X s market entry. For actively traded stocks, competition is found to increase market liquidity, as measured through lower quoted spreads, increased depth at best bid and offer and reduced synthetic round trip execution costs. 10 Gresse (2012) examines the impact of competition and order flow fragmentation on French CAC40, SBF120 and UK FTSE100 constituent equities among regulated markets, multilateral trading facilities and systematic internalisers. Both consolidated and local spreads are found to have narrowed after the implementation of MiFID, with the reduction most prominent for large capitalisation equities, increasing in magnitude as the level of fragmentation increased through time. This study builds on the findings of Gresse (2012, identifying the source of spread reductions observed contemporaneously with competition, whilst also analysing the impact competition has on explicit transaction costs, price discovery and market integrity. All empirical studies to date have found an improvement in consolidated market liquidity (i.e. lower transaction costs) from interexchange competition and associated order flow fragmentation. Noteworthy is that few of these studies consider market quality in the sense referred to in the mandate of regulators, which universally requires that all market design changes (of which the introduction of competition is one) pass the dual tests of fairness and efficiency. Fairness is typically ignored altogether while efficiency is generally only proxied by transaction costs. This suggests that previous works have at best given a flavor for the possible effects of competition on market quality. For markets where fragmentation has not been accompanied by regulatory consolidation, such as in Europe, we hypothesise that market integrity is likely to have deteriorated, notwithstanding reported enhancements in market efficiency, leading to the need to consider the tradeoff between fairness and efficiency. This is left to a subsequent paper. This paper makes several contributions to the empirical literature. First, we extend the analysis of interexchange competition s impacts on implicit transaction costs to a unique natural experimental setting the introduction of Chi-X trading in ASX listed securities in a small, centralised market consisting of a limit order exchange which did not previously experience substantial competitive forces. Second, we identify which of the two mechanisms theorised by Foucault and Menkveld (2008) lead competition to reduce spreads namely the reduction in the order processing costs of market makers generated by lower explicit fees. 10 These synthetic round trip costs measure the ability to trade 100,000 worth of stock at any point in time.

12 Third, our granular data enable us to identify an additional mechanism by which fragmentation can lower NBBO quoted spreads in the absence of trade-through prohibitions, namely the ability of stock prices to become locked or crossed. Importantly, we extend the concept of market quality to explicitly encompass the mandate of regulators around the world that require all market design changes to pass the dual tests of fairness and efficiency. To this end we extend the concept of efficiency to encompass price discovery and we address the issue of market fairness/integrity. Finally, we quantify the welfare impacts of competition for market participants. 4. Data and Research Design Data on trades and quotes is obtained from the Securities Industry Research Centre of Asia-Pacific (SIRCA) Thomson Reuters Tick History database, time-stamped to the millisecond. This data includes information on price, volume and qualifiers indicating whether a trade is executed off-market, against hidden liquidity or in the open or closing auctions. Quotes prior to 10:15am and after 3:45pm are removed from our continuous market variables in order to avoid the opening and closing auction process. Our primary observation period encompasses the 1 st of May 2012 (six months after the introduction of Chi-X) to the 31 st of January For robustness we have constructed all metrics from the 1 st of July 2011 to the 31 st of January Our sample of securities includes all constituents of the ASX200 on the 1 st of November, We remove from this list 11 securities that are removed from the ASX200 by the 1 st of January, We additionally remove 3 securities that trade below 10c within our sample period (due to issues surrounding tick size changes) and 12 securities that delist due to bankruptcy or takeover in the same period. This leaves a total sample of 174 ASX200 securities. We analyse the impact of the introduction of Chi-X in two ways. The first method compares liquidity metrics across one pre- and two post-event observation periods. The second method uses the percentage of trading in Chi-X as an indicator of the level of fragmentation in each stock-day. This allows us to identify the relationship between order flow fragmentation and changes in transaction costs and price discovery Cross Sectional Analysis of Transaction Cost 6 and 12 Months after Competition This specification examines three slices of time, one prior to the introduction of competition (October, 2011), the second six months after the introduction of competition (May, 2012) and the third one year after competition (November, 2012). This allows us to compare the impact of competition through time, utilising a dummy variable for each postcompetition period, similar to the method used in Foucault and Menkveld (2008). The

13 liquidity metrics analysed are quoted, effective and realised spreads, as well as the depth at NBBO. Equation 1 below specifies the regression estimated: (1) where is the transaction cost or informational efficiency metric under consideration, and are indicator variables equal to one for stock-day observations in May 2012 and November 2012 respectively, and zero otherwise, with the nocompetition period of October 2011 constituting our base case. is 1 divided by the daily time-weighted midpoint price of the security. is the natural logarithm of the security s daily trading turnover in dollars across both markets. We use the natural logarithm of volume to minimise skewing of results from the variance of large magnitude observations, as in Benston and Hagerman (1974). Volatility is calculated as per stock-day. This variable is not taken in logarithmic form since it is scaled by the share price and represented as a percentage. takes a value of 1 if the average price of stock i is less than $2 on day d, implying it had a tick size of ½c, and 0 otherwise (implying a tick size of 1c). represents stock-specific fixed effects which control for symbol-specific differences in Chi-X market share Continuous analysis of Transaction Costs and Informational Efficiency Metrics Our second specification uses Chi-X s percentage of Australian market turnover as a proxy for the level of fragmentation, analogous to the two-firm Herfindhal index utilised in Gresse (2012), to analyse changes in transaction costs and price discovery metrics. Market share is calculated as the percentage of dollar volume traded in each venue on a daily basis to capture differences in market share through time. We avoid issues of potential endogeneity between Chi-X participation and market quality variables by using the 1-day lagged 10-day moving average of same security Chi-X trading, as exposed in equation 2 below, where is the percentage of stock i dollar volume traded on Chi-X in day t: (2) We analyse data for all trading days from the 1 st of May st of January 2013, during which Chi-X market share increased to over 10%. The regression specification employed is documented in Equation 3 below.

14 (3) The variables used in Equation 3 have the same meaning as in Equation 1.In Equations 1 and 3, represents the dependent variable of interest. In our study, we employ quoted, effective and realised spreads, depth at the best bid and offer and Amihud illiquidity as our measures of liquidity. Measures of informational efficiency include the absolute value of mid-quote autocorrelation and the standard deviation of mid-quote returns. Similar to McInish and Wood (1992), our analysis utilises relative time-weighted bidask spreads. Quoted spreads are constructed from the best bid and offer quotes across both markets each time a new limit order is entered. For each stock and each day, these spreads are then weighted by the proportion of the day for which the prevailing quote is active. This provides an additional layer of continuous granularity that is not present in the method of Foucault and Menkveld (2008), where discrete order book snapshots are taken every five minutes during the trading day. This granularity allows us capture the increased complexity of modern capital markets, with high frequency traders operating in the millisecond range creating the possibility of locked or crossed markets in multi-venue trading. As per Chordia, Roll and Subrahmanyam (2001), outlier spreads are computed as those that exceed 25% of the time-weighted midpoint. If the proportion of outlier spreads in a stock-day observation exceeds 1%, it is removed from our sample. Similarly, if a stock s NBBO is crossed for more than 1% of the day, this stock-day observation is also removed, since a large proportion of crossed spreads typically indicates a trading halt. This process results in the deletion of 2535 stock day observations, out of a full sample size of for 174 stocks from July 2011 to January According to the findings of Foucault and Menkveld (2008) we expect the reduction in order processing costs attributable to reduced explicit trading costs on Chi-X to reduce quoted spreads. If the addition of Chi-X produces additional competition between brokers we would expect to see market makers duplicating their limit order schedules to maximise the probability of execution, as documented in Van Kervel (2012). This would result in increased quoted depth and potentially tighter quoted and effective spreads Impact of ASX fee reduction Our final specification seeks to identify whether a fee reduction on its own can generate the observed reduction in spreads. Whilst Foucault and Menkveld (2008) identify two mechanisms by which spreads may reduce, the contemporaneous nature of the fee

15 reduction and the introduction of competition to the Dutch market do not allow them to independently test these two hypotheses. In anticipation of the introduction of Chi-X, the ASX almost halved their fee for continuous on market execution from 0.28 basis points to The cost for on-market crossings reduced from 0.15 basis points to 0.1. The reduction of fees on the 1 st of July, 2010 allows us to test whether this reduction lowers the average spreads in the market consistent with Foucault and Menkvelds (2008) theory that order processing costs will be reduced. To test this theory, we use the following specification: (4) 4.2 Transaction Cost Measures Quoted liquidity is measured using the time weighted quoted spread and depth. The quoted spread is the difference between the lowest ask price and the highest bid price available across the consolidated market, at each quote update. We construct this measure in basis points by dividing the quoted spread in cents by the prevailing mid-point. ( ) ( ) (5) Where is the lowest ask price prevailing across either ASX or Chi-X for stock i at time t and is the highest bid price. A time weighted quoted spread metric per stock day is constructed by weighting all quoted spreads on the consolidated ASX and Chi-X market for the stock-day by the percentage of the trading day the spreads were active. The proportion of the trading day for which quoted spreads are constrained analyses one mechanism by which the introduction of competition decreases spreads, since competition for order flow between venues is likely to result in more frequently constrained prices, resulting in reduced bid ask spreads. This metric is constructed as the percentage of the trading day for which quotes are at or below the minimum tick. (6) where is equal to one if the best bid quote is less than the best ask quote minus the minimum tick size at millisecond m and zero otherwise, and 19,800,000 is the number of milliseconds between 10:15am and 3:45pm.

16 Quoted dollar depth is the value that can be traded at the national best bid and offer (NBBO). It represents the immediately tradable value at the best prices available in the market. This value is constructed by multiplying the price and volume available across both ASX and Chi-X at the best bid and offer at any point in time, as in Equation 7: ( ) (7) where is the lowest ask price prevailing across ASX or Chi-X for stock i at time t, is the consolidated volume available on all exchanges at that best ask level, is the highest bid price prevailing across ASX or Chi-X for stock i at time t and is the volume available at that best bid level. A time weighted quoted depth metric per stock day is constructed by weighting all quoted depth observations for the stockday by the percentage of the trading day for which that depth level was active. We also examine effective liquidity measures, which capture the conditions that traders decided to act upon, rather than the posted conditions prevailing in the market. We use both effective and realised spreads. Effective spreads calculate the cost of a transaction for the liquidity demander and are measured using the difference between the transaction price and the midpoint of the bid and ask quotes at the time of the transaction. For the t-th trade in stock i on day d, the effective spread is calculated as: (8) where is the transaction price, is the midpoint of the best bid and ask quote prevailing at the time of the trade, and indicates the direction of the trade, where a buyer initiated trade takes a value of 1 and a seller initiated trade takes a value of 1. Buyer and seller initiated trades are identified by comparing the prevailing NBBO to the transaction price using the Lee and Ready (1991) algorithm. Realised spreads reflect the portion of the transaction cost that is attributed to liquidity provider revenues. We use the five minute realised spread, assuming that liquidity providers are able to reverse any position they have accrued at the midpoint five minutes subsequent to the trade. We define the realised spread as: (9)

17 where is the transaction price, is the midpoint of the quote prevailing five minutes after the time of the t-th trade, and indicates the direction of the trade, where a buyer initiated trade takes a value of 1 and a seller initiated trade takes a value of -1. We use Amihud s (2002) measure of illiquidity to determine if there has been a change in the price impact of trades. Amihud s illiquidity measure identifies the relationship between the absolute value of return over a given period and the volume transacted in that period. The intuition is that relatively illiquid shares will have their prices moved more by high trading volumes than will liquid securities. This illiquidity measure is constructed as: (10) where is the absolute return on stock i for day d in hour h and is the dollar volume transacted in that same period. 4.3 Price Discovery Measures The mandate of regulators to ensure fair and efficient markets requires a broad analysis of market quality variables. To date, studies have analysed the impact of competition using primarily transaction cost measures, with the exception of O Hara and Ye (2011). We extend our analysis to examine the impact of competition on measures of price discovery and total welfare. Two measures are used to identify the amount of information that is impounded into prices: autocorrelation-based measures and volatility-based measures. Positive or negative mid-quote autocorrelation indicates that quotes deviate from a stochastic random walk process and exhibit short-term return predictability. Such predictability is inconsistent with an informationally efficient market. We calculate first-order return autocorrelations for each stock-day, at various intraday frequencies,, following the method of Hendershott and Jones (2005): (11) Where is the t th midquote return of length k for a stock-day. Taking the absolute value of the autocorrelation yields a measure of informational efficiency that measures both the underand over-reaction of returns to information, with larger values indicating greater inefficiency.

18 The second measure of informational efficiency used is the standard deviation of returns. A lower standard deviation indicates greater informational efficiency, since stock prices exhibit lower price volatility. We calculate standard deviations of returns for each stock-day, at various intraday frequencies,, (12) where is the t th mid-quote return of length k for a stock-day. 5. Summary Statistics and Results 5.1 Summary Statistics Table 4 provides summary statistics for the variables utilised in our sample. These are broken up into two periods the 4 months prior to the introduction of Chi-X and 9 months beginning 6 months after the introduction. Panel A provides details on the liquidity metrics constructed. Whilst mean quoted spreads have increased slightly from to 33.1, median spreads have experienced a decline over the same period. Declines are also observed in effective spreads, reducing by 1.77 basis points. We also observe a slight increase in quoted depth and a significant increase in the proportion of time spent at or below the minimum tick size from 68% to 75%. A decline is also observed in the Amihud Illiquidity metric, implying that prices are better able to absorb large transactions, consistent with increases in quoted depth. Panel B describes summary statistics for informational efficiency measures. Whilst very minor increases are observed in autocorrelation from the pre-chi-x period to post, there are much greater magnitude reductions reported in the mean and median standard deviations of prices at all frequencies, implying whilst prices may be more sluggish to impound new information, they are much less volatile.. Panel C presents descriptive statistics for the control variables. The increase in price inverse implies a reduction in average stock price from $2.37 to $2.04 over the pre-post period. Commensurate with this slight reduction in price we observe the number of stock days trading with ½c tick size increases from 27% to 28% of the sample. Traded value declines slightly over the sample period as does volatility. < Insert Table 4 here >

19 Figure 2 shows that the mean proportion of crossed spreads has increased as Chi-X s market share has grown. The mean proportion of constrained spreads also increased steadily, peaking and plateauing in June This indicates that the entry of Chi-X has encouraged competition between liquidity providers on each venue, resulting in an increase in the frequency of locked and crossed spreads, reducing the average implicit costs of trading. Such an occurrence provides one insight into how multiple markets may mechanistically reduce the transaction costs of participants, providing instances when they can buy and sell at the same prices in different markets. < Insert Figure 2 here > 5.2 Empirical Results Our first set of results documents the impact of the introduction of Chi-X using one pre-competition period and two post-competition periods; one six months subsequent to Chi- X introduction, and the other after one year. Table 5 documents the impact of Chi-X introduction on stock liquidity, with stocks separated into quartiles based on 2011 market capitalisation. Declines of between 1.62 and 2.87 basis points are observed for each quartile of the ASX200, both 6 months and 1 year subsequent to the introduction of Chi-X. These spread reductions are greatest for the smallest half of stocks in our sample likely as these have the largest spreads to start with. These declines are mirrored by similar reductions in effective spreads, though with magnitudes of these reductions are more pronounced the smaller the securities. Declines in realised spreads are not identified until one year after the introduction of Chi-X. This may reflect the time that is necessary for competition amongst liquidity providers to generate such reductions. Quoted consolidated depth experiences both incrases and decreases as a result of competition, whilst ASX only depth experiences an increase. This is as a result of tighter spreads existing on Chi-X. If a BBO price is imporved only on Chi-X with relatively thin depth, this will tend to reduce the depth available at the BBO. Consistent with an increase in main market depth, Amihud Illiquidity reduces with competition. Finally, the percent of the day for which stocks prices are constrained by the minimum tick size increases by between 6% and 11.5% for the least liquid third of stocks, with stocks in the largest quartile constrained an additional 20% of the time with competition. < Insert Table 5 here >

20 Panel A of Table 6 shows the results of our analysis of the impact of competition using the fraction of Chi-X traded volume. This is constructed over a period of 9 months, beginning 6 months after the introduction of Chi-X. Consequently the level of fragmentation experienced in each stock-day varies significantly, with average Chi-X volume increasing from 2% at the start of the sample to 11% by the end. O Hara and Ye (2011) use a similar metric of fragmentation, which allows for a more concise exposition of the relationship between changes in efficiency and increases in competition. Consistent with our first specification, we find that increasing Chi-X volume reduces quoted spreads, with a 10% Chi- X share leading to a basis point reduction in the quoted spread amongst the most actively traded ASX securities. These findings are similar to those of O Hara and Ye (2011), who find that effective spreads decrease basis points for each 10% of US equities volume reported to trade reporting facilities. Similar to our analysis of the All Ordinaries securities we find reductions in the effective and realised spreads of larger magnitudes to quoted spreads, representing reductions in the cost of liquidity provision. This implies that competition for order flow is intensified as more order flow migrates to the Chi-X venue. There is a significant increase in quoted depth as Chi-X market share increases, consistent with the increased duplication of limit orders by market makers identified by Van Kervel (2012). This increase in depth appears to increase the markets ability to absorb large orders, lowering the Amihud illiquidity metric. Panel B shows the same liquidity metrics constructed using quote data for the ASX only. This overcomes any potential issues with non-synchronised time-stamps between venues and illustrates the extent to which locked and crossed markets contribute to the observed improvements in liquidity. Each of the constructed spread measures are between basis points larger when constructed using only the ASX data. This implies that at most 20% of the observed improvement in liquidity is due to the mechanics of locked or crossed markets. Whilst the depth increase for Chi-X volume is larger in Panel B this is likely due to the larger nature of stocks with high Chi-X volume. If volume is duplicated in stocks that are constrained on the ASX in order to queue jump, this will result in greater increases in consolidated depth than in ASX-only depth. Interestingly, the observed improvement in the level of constraint when measured for the consolidated market is not present in our ASX-only analysis. This is due to the inability of quotes to be locked or crossed with only one venue. < Insert Table 6 here > Table 7 documents the impact of competition on the price discovery of market-wide stock prices. Mid-quote autocorrelation is measured at the 30second, 60second and 5minute intervals. Table 7 shows that apart from the 5-minute measurements the level of

21 autocorrelation is reduced for both the consolidated market and ASX-only. This implies that the introduction of Chi-X has resulted in modest increases in the efficiency of prices, with prices exhibiting behaviour more in line with the random walk, which could be generated by the increased competition between liquidity providers. Finally, the standard deviation of returns is constructed at the 1second, 30second and 30minute intervals. Table 7 shows that for all time intervals for both the ASX-only and consolidated markets, there are significant reductions in the volatility of prices. This implies prices are better reflections of the true value of the securities, meeting one of the mandates of the regulator. This could be due to the increased liquidity available across the consolidated venues, making it more difficult for prices to be dislocated. Overall the introduction of competition to Australia is found to enhance the price discovery of the market. < Insert Table 7 Here > In our final empirical analysis, we utilise the reduction in fees by the ASX in anticipation of the introduction of Chi-X in July 2010 as an opportunity to test Foucault and Menkveld s (2008) theory that reductions in explicit fees reduce order processing costs for liquidity providers, enabling them to lower their quoted spreads. Table 8 documents reductions in quoted spreads of 0.25 basis points post-fee reduction. This compares to a reduction in explicit fees of 0.26 basis points (0.13 per side) by the ASX over the same period. This implies a pass-through rate of 1:1. The slightly higher reductions observed in effective spreads, combined with increases in depth, percent of the day for which stocks are constrained and reductions in illiquidity imply that the reduction in fees may have also generated increased competition between liquidity providers. This competition may also be evidenced by small reductions in the autocorrelation and standard deviations of mid-quote returns. < Insert Table 8 here > The relatively small magnitude of the change observed in quoted spreads around the 2010 reduction in fees implies that liquidity providers do in fact pass through reductions in order processing costs. However, the size of the reductions observed around the introduction of trading in Chi-X cannot be justified by such a pass through rate. Even the conservative estimate of basis points identified in Table 6 cannot be explained by the reduction in fees by Chi-X of 0.18 basis points (assuming passive execution on both sides of the trade). This provides the first empirical separation of the relative effects of the theories put forward by Foucault and Menkveld (2008). While reductions in explicit fees are passed through to

22 customers by liquidity suppliers, such a pass through is proportional to the size of the fee reduction. The major benefit of fragmentation, then, is the increased competition between liquidity providers generated by queue-jumping strategies in the absence of between-markets time priority. 6. Robustness Tests 6.1 Robustness of evidence post 6 and 12 months In order to ensure the accuracy of the results we have presented, robustness tests are generated for both specifications concerning the impact of Chi-X. Robustness tests for our analysis after 6 and 12 months of competition are provided by examining alternate periods. Specifically, rather than using October 2011, May 2012 and November 2012, we move one month earlier in our first robustness, and two months earlier in our second robustness test. This ensures that our results are not isolated to the sample periods selected. Table 9 reports the results of these robustness tests. As in our base case, quoted spreads are found to reduce by between 0.91 and 1.52 basis points. Whilst this is a smaller magnitude than the result found by analysing October 2011 as our base case, it is closer to the estimates found using continuous Chi-X trading reported in Table 6. Consistent with our base case, we find that regardless of the preand post- periods selected, effective spreads are significantly reduced. Realised spreads are decreased or unchanged in all periods with the exception of the comparison between August 2011 and March This is likely due to the relatively low level of Chi-X trading in March 2012 (less than 1%). We find consolidated depth is either increased or unchanged in all specifications and stocks become more tick-constrained and better able to absorb large trades. Panel B reports the robustness tests for our efficiency metrics. Whilst our October 2011 case experiences a slight increase in mid-quote autocorrelation, the majority of alternate specifications exhibit reduced autocorrelation, indicating more efficient prices. Similarly, all constructed specifications exhibit less volatile prices after the introduction of competition. < Insert Table 9 Here > 6.2 Robustness of evidence using continuous Chi-X volume In order to verify the accuracy of our second estimation specification using continuous Chi-X volume we present five separate robustness tests, each designed to probe a separate source of potential error. Table 10 presents the findings of these robustness tests. For brevity, we have reported only the t-statistic on the Chi-X variable for each separate dependent variable regressions.

23 6.2.1 Robustness of findings to continuous measure of Chi-X volume It is possible that the measurement of Chi-X volume at different magnitudes through time affects the estimated coefficient on Chi-X market share. To overcome this potential bias, we re-estimate our regressions using an indicator when Chi-X passes 5% market share. This variable is based on each individual stock-day s prior 10-day moving average of Chi-X volume, as specified in Equation 2. We find those stock-days with Chi-X volume greater than 5% experience quoted spread declines of just over half a basis point. Whilst this is lower than our primary specification estimate at 10% Chi-X market share of basis points it is likely due to the lower threshold used. We also find reductions in effective and realised spreads and illiquidity, and increases in quoted depth and level of constraint, consistent with our base specification. All efficiency metrics are significantly improved except for 5-minute autocorrelation which exhibits no significant change Robustness of findings to moving-average of Chi-X volume Whilst we have used a 1-day lagged 10-day moving average of each stock s Chi-X market share (as documented in Equation 2) to avoid potential problems of endogeneity between Chi-X participation and market quality variables, it is possible that this smoothing of Chi-X volume affects our results. Our second robustness test overcomes this potential problem by using the actual Chi-X market share on day t. Consistent with our main findings; we identify a reduction in spreads and illiquidity and an increase in the level of constraint. We find no significant change in depth. All efficiency metrics are significantly improved except for 5-minute autocorrelation which exhibits no significant change Robustness of findings to spread in basis points Though most of the extant literature analyses spreads in basis points, it is possible that the advent of high frequency trading has resulted in situations where spreads are constrained for much of the day (for example in the most liquid securities). If this is the case, any change in spreads in basis points may caused by changes in price rather than spreads. Whilst the use of a control variable for inverse price should account for this variation, we test the robustness to this measurement choice by re-estimating our base-regression using spread in cents rather than in basis points. Consistent with our base specification we find significant reductions in all spread measures and in illiquidity. We find significant improvements in depth and the level of constraint. All efficiency metrics are significantly improved except for 5-minute autocorrelation which exhibits no significant change.

24 6.2.4 Robustness of findings to choice of sample period Table 9 demonstrated that our findings were not significantly affected by the sample period chosen. However, these findings are in an experimental environment which uses discrete periods of time, rather than one large continuous period. We chose to use the 9 months following the 6-month anniversary of Chi-X introduction as prior to May 2012 Chi-X volume was less than 2% of total trading. To ensure that our continuous results are not impacted by this choice, we re-estimate our model including the 18 months from July 2011 to January This includes 4 months prior to the introduction of Chi-X during which Chi-X market share will be 0. Table 10 reports slightly lower estimates of the reduction in spread due to Chi-X, likely due to the numerous periods with very low levels of Chi-X market share. Consistent with our base specification we find significant reductions in all spread measures and in illiquidity. We find significant improvements in depth and the level of constraint. All efficiency metrics are significantly improved except for 30 and 60 second autocorrelation, which exhibit increases. The magnitudes of the changes found for all variables apart from quoted spread are much larger than in our previous estimations likely due to the low levels of Chi-X market share during the earlier part of the sample Robustness of findings to off-market trade reporting A significant portion of Chi-X reported volume does not occur on the Chi-X venue. Rather crosses are generated by brokers and need to be reported to a marketplace. These offmarket trades can be reported either to Chi-X or ASX. Figure 1 shows that in December 2012 total Chi-X trading was at around 11% whilst on-market volume (excluding crosses) was only at 6%. In order to ensure this upward bias in trading volume does not affect the results we have created a specification excluding off-market trades occurring on both ASX and Chi-X. This provides a Chi-X market share figure that represents Chi-X share of true on-market volume. This change strengthens our findings for spreads, but results in no significant change for depth, level of constraint or illiquidity. All efficiency metrics are significantly improved except for 5-minute autocorrelation which exhibits no significant change. < Insert Table 10 Here > 7. Total Welfare Results Having determined the reduction in implicit costs due to the introduction of competition in Australia, we now turn to identifying the total welfare implications for market participants. Table 11 reports that the reduction in ASX s explicit trading fees resulted in cost

25 savings of approximately $16.59 million in This fee reduction was implemented shortly after Chi-X announced its intention to enter the Australian market place. This figure is reduced to a net benefit of just $7.79 million however, as the ASX also scrapped a large participant rebate of approximately $8.8 million. < Insert Table 11 Here > Table 12 documents the total welfare savings accruing to Australian market participants as a result of the introduction of competition. In addition to the explicit fee reductions, an estimate of the implicit cost reductions at 10% Chi-X market share results in a decrease in quoted spreads of between and 2.61 basis points. 11 When multiplied by ASX200 trading volume on the ASX for 2012 this results in an implicit annual cost saving of $64.69 $ million. Whilst the use of quoted spreads may not be tantamount to reduced actual transaction costs due to the potential for fleeting liquidity by high frequency traders (see for example Van Kervel, 2012), an estimate based on the reduction observed in effective spreads over the 2012 period yields even larger cost savings. Deducted from this are the costs associated with Chi-X s introduction, 12 including $5.4 million for the establishment of IT infrastructure by brokers to connect to Chi-X, and $640,000 in annual subscription fees for access to Chi-X. We also include the entire $29.77 million in ASIC cost recovery fees, being for all regulated markets and over 18 months, as documented in Table 3, though only a small portion of this is explicitly allocated to the costs of regulating Chi-X. Overall, net welfare gains of competition amount to $ million in 2012 alone. These savings are expected to increase through time as one-off fees such as connection to Chi-X are absorbed, the range of securities experiencing competition extends to the full ASX universe and Chi-X increases its market share in Australian equities. < Insert Table 12 here > 8. Conclusion The introduction of Chi-X, as an alternative exchange for trading ASX listed cash equities, has resulted in inter-exchange competition in Australia and led to an increasing level of order flow fragmentation. We find that quoted, realised and effective spreads for stocks 11 This compares to an estimate of a 3 basis point reduction over the period August 2012 January 2013 by ASIC See ASIC Market Supervision Cost Recovery Impact Statement. 12 These costs have been estimated from discussions with representatives of Chi-X and several Chi-X connected brokers.

26 exposed to competition have declined as an increasing proportion of order flow migrates from ASX to Chi-X. This reduction in quoted spreads is possible even in stocks that experience constrained spreads, as the proportion of time for which the markets are locked and crossed has increased, effectively allowing participants to buy and sell at the same price. The reduction in ASX trading fees prior to the introduction of Chi-X enables us to test the theoretical predictions of Foucault and Menkveld (2008), showing that liquidity providers pass through reductions in explicit fees (which reduce their order processing costs) in the form of lower quoted spreads. The coefficient on this pass-through is found to be 1:1. Further, we are able to show that the majority of the benefits of competition accrue through the second mechanism identified by Foucault and Menkveld (2008). That is, as a second incumbent market is introduced, the potential for queue-jumping strategies leads to an increase in aggregate quoted depth and tightening of quoted spreads. The order-by-order nature of our data allow us to observe that this tightening is augmented by increased locked or crossed markets, though we show that such a mechanism is not necessary to observe quoted spread reductions. We extend our analysis of efficiency effects to include measures of price discovery, documenting that fragmentation increases competition for order flow between venues, resulting in price series that deviate less from a random walk and exhibit lower levels of autocorrelation. This price formation process is also found to be less volatile, with standard deviations at both short and medium terms reduced with the introduction of competition. Our results are found to be robust to a number of varying specifications, including changes to the time period through which competition is analysed, whether competition is measured as a continuous variable, at a threshold level, using a 10-day moving average or contemporaneous market share, on-market or off-market volume and measuring spreads in basis points or in absolute terms. Whilst our findings indicate that market efficiency has increased, some participants have opined that these benefits of competition may be outweighed by the explicit costs. We quantify these costs and benefits based on trading in We find that a reduction in spreads of between and 2.61 basis points as a result of Chi-X taking 10% market share equates to an implicit annual saving of between $ million for market participants in 2012 alone. Combined with the reduction in ASX trading fees of $7.8 million this significantly outweighs the explicit costs of $15.21 million levied by ASIC over the same period and any costs of connection to Chi-X, resulting in benefits that are likely to increase as competition is expanded to the full universe of ASX listed securities. An assessment of market quality requires us to look not only at the impact of the change on market efficiency but also the impact on market integrity. If efficiency increases at the expense of market integrity then the change was potentially sub-optimal. We argue that

27 changes to market integrity arrangements in Australia coinciding with the introduction of competition allowed an otherwise fragmented market to be reconsolidated for regulatory purposes and so our expectation is that competition would cause no change in integrity. This stands in contrast to the situation in Europe post MiFiD (November 1, 2007) where we expect reduced integrity as fragmentation was not accompanied by a centralised surveillance authority to recombine the fragmented data feeds. With no change in market integrity and a positive change in market efficiency (both transaction costs and price discovery), this research provides evidence that the introduction of competition has improved the quality of Australian equity markets. More specifically, the implicit benefits of these costs far outweigh the costs of competition, at least as compared to the monopoly provision of secondary securities market trading.

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30 Table 1 Timeline of Significant Events Leading to Chi-X s Introduction The table below presents a timeline of critical milestones which preceded the introduction of Chi-X Australia as an alternative secondary market for cash equities. Date 31 March August April May October October 2011 Event Government announces support for interexchange competition and inprinciple approval of Chi-X s Australian market licence. Australian market supervisory responsibility is transferred from ASX to ASIC, in preparation for the introduction of competition. ASIC issues new market integrity rules for Chi-X and a framework for the introduction of competition in securities exchanges. Government grants Chi-X an Australian market licence to operate an alternative securities exchange. ASIC announces that all preconditions in Chi-X s Australian market licence have been fulfilled. Chi-X Australia commences trading of ASX listed securities, ending ASX s monopoly in Australian equities trading. Table 2 ASX Trading Fees The following table presents the trading fees charged by ASX and Chi-X for order execution, in basis points. Chi-X s fee structure applied from market launch, with the on-market crossing rate corresponding to a Block Special and the off-market crossing rate corresponding to a Large Principal Transaction. Description ASX Fee pre 1 July 2010 ASX Fee post 1 July 2010 Chi-X passive execution Chi-X aggressive execution Trade Execution Fee Trade Execution - Auctions On-market crossings Off-market crossings

31 Table 3 ASIC cost recovery breakdown The following table documents the cost recovery scheme levied by the securities regulator, ASIC, on market participants, to recoup the expenses it incurred in establishing a new regulatory framework. This framework allows provisions for the introduction of competition between exchanges in Australian equities, as well as a number of other operational upgrades. Costs below correspond to the period from the 1st of January 2012 to the 30th of June 2013, and are sourced from the ASIC Market Supervision Cost Recovery Impact Statement. Cost Attribution Cost ($ millions) IT Costs Levied on Market Participants 7.89 Non-IT Costs Levied on Market Participants Costs Levied on Market Operators 3.72 Integrated Market Surveillance System 0.70 Futures and Small Financial Markets 2.54 Total ASIC Cost Recovery 29.77

32 Table 4 Descriptive Statistics on Liquidity Metrics This table reports summary statistics for liquidity metrics across ASX 200 constituent securities. Our observation periods consist of a four month pre- period prior to Chi-X s introduction and a nine month post- period after Chi-X s introduction. Quoted spreads are time-weighted across both ASX and Chi-X. Realised and effective spreads are computed based on the prevailing lit NBBO for transactions across both markets. Realised spreads are constructed after five minutes. All spreads are calculated in basis points by dividing the absolute spread by the midpoint price. Depth is constructed as the time weighted dollar value of volume available at the NBBO aggregated across both markets. The percentage of the trading day under which quoted bid ask spreads are constrained at the minimum tick size is also reported. Amihud illiquidity is the absolute return per hour divided by the dollar volume transacted in that hour. This is then averaged for each hour to arrive at an illiquidity measure per stock-day. The absolute value of the return autocorrelation and standard deviation of stock returns are calculated at various intervals. Price inverse is one divided by the daily time weighted midpoint. Ln value is the natural logarithm of the daily trading turnover. Tick size is equal to one if the daily time weighted midpoint is below two dollars and zero otherwise. Volatility is calculated daily as the high price, less the low price, divided by the time weighted midpoint. Panel A: Liquidity Metrics 1 July October May January 2013 Standard Standard Mean Median Mean Median Deviation Deviation Quoted Spread Effective Spread Realised Spread Depth (`0,000s) Constrained % Amihud Illiquidity Panel B: Efficiency Metrics 30 sec autocorrelation sec autocorrelation min autocorrelation sec standard deviation sec standard deviation min standard deviation Panel C: Control Variables Price inverse Ln value Tick Size Volatility

33 Table 5 Liquidity Change for ASX 200 Stocks by Quartile Relative to October 2011 Levels This table reports changes in liquidity metrics for ASX 200 constituent stocks, separated into quartiles by market capitalization, six months and one year after Chi-X s introduction relative to the pre-entry levels. The econometric specification expresses the liquidity metric for stock i on day t as the sum of a stock specific mean, indicator variables for the post-entry periods, control variables for price, volume and volatility, and an error term. We calculate quartile means and event-effects based on the model estimates. The pre-entry period runs from 1 rd 31 st of October 2011, post-entry 1 from 1 st 31 st May 2012, and post-entry 2 from 1 st 30 th November We calculate the difference between the pre-entry and post-entry metrics and present the coefficient and t-statistic on the event variable. We add a */**/*** if these are significantly different at the 90%/95%/99% level. In the test, we double cluster standard errors by stock and date. We delete stocks which do not trade in all three periods. Quoted Spread Effective Spread Realised Spread Depth (`0,000s) Constrained % Amihud Illiquidity Panel A: Consolidated Market Q (-35.59)*** (-10.54)*** 0.84 (3.12)*** 3.93 (1.54) (34.29)*** (-4.99)*** Change in Q (-17.63)*** (-8.14)*** 0.97 (1.70)* 7.51 (8.84)*** 5.60 (6.74)*** (-4.44)*** May 2012 Q (-19.41)*** (-7.63)*** 0.83 (1.07) (-1.91)* 7.10 (10.36)*** (-3.04)*** Q (-11.38)*** (-11.09)*** (-1.20) 5.58 (3.77)*** 6.60 (9.71)*** (-6.84)*** Change in Nov 2012 Panel B: ASX Only Change in May 2012 Change in Nov 2012 Q (-36.16)*** (-15.34)*** (-2.76)*** (-1.21) (39.53)*** (-6.35)*** Q (-13.21)*** (-11.61)*** (-2.50)** (-0.38) 6.40 (7.40)*** (-3.96)*** Q (-21.07)*** (-9.72)*** (-2.21)** 5.41 (2.20)** (15.14)*** (-4.06)*** Q (-10.63)*** (-12.68)*** (-2.92)*** (-1.57) 4.90 (6.58)*** (-6.95)*** Q (-36.37)*** (-7.79)*** (-0.09) 6.62 (2.61)*** (33.71)*** (-5.80)*** Q (-13.17)*** (-5.37)*** (-0.73) 9.84 (11.11)*** 5.40 (6.57)*** (-4.95)*** Q (-15.05)*** (-5.21)*** (-0.61) (-0.72) 7.40 (10.87)*** (-3.28)*** Q (-5.98)*** (-8.42)*** (-3.13)*** 6.88 (4.58)*** 6.40 (9.58)*** (-7.29)*** Q (-38.6)*** (-11.16)*** (-2.46)** 5.16 (2.22)** (38.24)*** (-6.88)*** Q (-8.02)*** (-7.99)*** (-2.89)*** 3.36 (3.39)*** 6.20 (7.16)*** (-4.46)*** Q (-15.85)*** (-7.34)*** (-1.87)* 7.31 (3.05)*** (15.24)*** (-4.30)*** Q (-4.10)*** (-8.63)*** (-3.54)*** (-0.76) 4.80 (6.52)*** (-7.24)***

34 Table 6 Liquidity Metrics for ASX 200 Stocks This table reports changes in time weighted quoted, effective and realized spreads, depths, percentage of time quoted spreads are constrained at minimum tick and normalized Amuhud illiquidity for ASX 200 constituent stocks from six months to fifteen months after Chi-X s introduction. The econometric specification expresses the liquidity metric for stock i on day t as the sum of a stock specific mean, 10 day moving average Chi-X market share, control variables for price, volume and volatility, and an error term. Panel A presents the consolidated market, including both ASX and Chi-X data, whilst Panel B reports ASX data only. The observation period runs from the 1 st of May 2012 to the 31 st of January We calculate the difference between liquidity metrics for each percentage of market share captured by Chi-X and control variables, and add a */**/*** if these are significantly different at the 90%/95%/99% level. In the test, we double cluster standard errors by stock and date. Quoted Spread Effective Spread Realised Spread Depth (`0,000s) Constrained % Amihud Illiquidity Panel A: Consolidated Market Chi-X Mkt Share (-16.81)*** (-14.18)*** (-7.04)*** (3.52)*** 3.3 (1.76)* (-2.53)** Intercept (40.59)*** (6.23)*** 7.84 (2.07)** (-15.09)*** 74.8 (39.26)*** 7.67 (59.74)*** Price inverse (76.08)*** (62.09)*** (15.71)*** (13.77)*** 17.4 (21.49)*** (-13.89)*** Ln value (-18.11)*** (-0.93) 0.14 (0.54) (15.61)*** 0.8 (6.66)*** (-50.88)*** Tick Size ( )*** (-48.50)*** (-15.42)*** (-5.12)*** ( )*** 0.26 (9.69)*** Volatility 0.01 (16.91)*** 0.01 (12.60)*** (-12.19)*** (-17.19)*** 0.0 (-9.72)*** 0.00 (54.06)*** Panel B: ASX Only Chi-X Mkt Share (-15.31)*** (-13.57)*** (-5.70)*** (3.00)*** -0.2 (-0.10) (-2.75)*** Intercept (41.69)*** (5.40)*** 2.69 (0.72) (-15.17)*** 72.7 (38.66)*** 7.64 (60.93)*** Price inverse (77.24)*** (68.71)*** (15.83)*** (14.00)*** 17.7 (22.21)*** (-13.76)*** Ln value (-18.92)*** (-0.54) 0.47 (1.86)* (15.82)*** 1.0 (8.01)*** (-51.94)*** Tick Size (-102.5)*** (-52.22)*** (-14.98)*** (-6.72)*** ( )*** 0.26 (9.79)*** Volatility 0.01 (18.22)*** 0.01 (15.76)*** (-13.67)*** (-18.69)*** 0.0 (-10.14)*** 0.00 (53.75)***

35 Table 7 Information Efficiency Change for ASX Listed Stocks This table reports changes in absolute value of return autocorrelation and standard deviation of returns at varying intervals for ASX 200 constituent stocks from six months to fifteen months after Chi-X s introduction. The econometric specification expresses the efficiency metric for stock i on day t as the sum of a stock specific mean, 10 day moving average Chi-X market share, control variables for price, volume and volatility, and an error term. Panel A presents the consolidated market, including both ASX and Chi-X data, whilst Panel B reports ASX data only. The observation period runs from the 1 st of May 2012 to the 31 st of January We calculate the difference between efficiency metrics for each percentage of market share captured by Chi-X and control variables, and add a */**/*** if these are significantly different at the 90%/95%/99% level. In the test, we double cluster standard errors by stock and date. Absolute Value of Return Autocorrelation Standard Deviation of Returns 30 second 60 second 5 minute 1 second 30 second 30 minute Panel A: Consolidated Market Chi-X Mkt Share (-2.51)** (-2.57)** (-0.62) (-7.34)*** (-14.59)*** (-4.55)*** Intercept (-7.06)*** (-5.76)*** (-1.04) (-9.53)*** (-13.77)*** (-6.01)*** Price inverse (-1.92)* (-2.50)** 0.00 (0.18) 0.50 (14.09)*** 2.25 (14.29)*** 7.99 (8.61)*** Ln value 0.01 (17.44)*** 0.01 (15.52)*** 0.01 (10.27)*** 0.21 (11.52)*** 0.79 (17.44)*** 2.42 (7.52)*** Tick Size 0.01 (1.45) 0.01 (3.78)*** 0.00 (0.80) (-13.53)*** (-15.75)*** (-6.13)*** Volatility 0.00 (-10.85)*** 0.00 (-10.62)*** 0.00 (-7.51)*** 0.00 (24.87)*** 0.01 (44.98)*** 0.11 (46.38)*** Panel B: ASX Only Chi-X Mkt Share (-2.80)*** (-2.39)** (-0.33) (-8.55)*** (-14.94)*** (-5.41)*** Intercept (-8.25)*** (-7.11)*** (-1.28) (-20.87)*** (-20.99)*** (-6.94)*** Price inverse 0.00 (-1.37) (-1.66)* 0.00 (0.34) 0.54 (15.53)*** 2.37 (15.34)*** 7.59 (8.44)*** Ln value 0.02 (18.66)*** 0.02 (17.01)*** 0.01 (10.85)*** 0.19 (26.00)*** 0.71 (28.17)*** 1.64 (10.11)*** Tick Size 0.01 (1.47) 0.01 (3.41)*** 0.00 (0.31) (-15.37)*** (-17.04)*** (-6.07)*** Volatility 0.00 (-10.62)*** 0.00 (-11.14)*** 0.00 (-8.86)*** 0.00 (44.15)*** 0.01 (61.57)*** 0.11 (64.47)***

36 Table 8 Liquidity and Informational Efficiency Change After ASX s 2010 Fee Reduction This table reports changes in liquidity and informational efficiency measures for ASX200 constituent securities from in the period six months prior to and six months after ASX s 2010 trading fee reduction. The econometric specification expresses the liquidity or efficiency metric for stock i on day t as the sum of a stock specific mean, binary fee reduction variable equal to zero prior to ASX s trading fee reduction on 30 June 2010 and one after, controls for price, volume and volatility, and an error term. We calculate means and event-effects based on the model estimates. The observation period runs from the 1 st of January 2010 to the 31 st of December We calculate the difference between the pre- and post- event liquidity and efficiency metrics and control variables, and add a */**/*** if these are significantly different at the 90%/95%/99% level. In the test, we double cluster standard errors by stock and date. Panel A: Liquidity Metrics Quoted Spread Effective Spread Realised Spread Depth (`0,000s) Constrained % Amihud Illiquidity Fee Reduction (-5.81)*** (-15.94)*** (-0.36) 1.78 (3.39)*** 0.7 (5.98)*** (-13.98)*** Intercept (22.45)*** (6.25)*** 1.94 (0.41) (-25.50)*** 69.4 (35.73)*** 8.22 (90.80)*** Price inverse (31.30)*** (145.93)*** (22.37)*** (13.64)*** 19.3 (21.22)*** (-19.84)*** Ln value (-6.52)*** (-1.36) 0.41 (1.26) (26.44)*** 1.2 (8.91)*** (-72.12)*** Tick Size (-14.48)*** (-59.53)*** (-14.11)*** (7.31)*** (-96.70)*** 0.18 (6.77)*** Volatility 0.01 (17.09)*** 0.00 (8.44)*** (-23.39)*** (-20.94)*** 0.0 (-14.18)*** 0.00 (31.86)*** Panel B: Efficiency Metrics Absolute Value of Return Autocorrelation Standard Deviation of Returns 30 second 60 second 5 minute 1 second 30 second 30 minute Fee Reduction 0.00 (-4.71)*** 0.00 (0.54) 0.00 (-0.93) (-14.68)*** (-12.21)*** (-15.33)*** Intercept (-14.41)*** (-10.58)*** (-1.71)* (-40.00)*** (-29.80)*** (-2.43)** Price inverse (-6.30)*** (-4.22)*** (-4.66)*** 0.11 (3.14)*** 0.72 (4.19)*** 3.69 (4.47)*** Ln value 0.02 (23.42)*** 0.02 (19.56)*** 0.01 (11.35)*** 0.22 (49.73)*** 0.81 (39.91)*** 1.17 (7.51)*** Tick Size 0.00 (0.81) 0.00 (-0.40) 0.00 (0.71) (-2.43)** (-2.70)*** 0.19 (0.25) Volatility 0.00 (-7.48)*** 0.00 (-3.91)*** 0.00 (-9.45)*** 0.00 (56.94)*** 0.01 (78.40)*** 0.12 (61.17)***

37 Table 9 Liquidity Change for ASX 200 Stocks Post- Chi-X Introduction Relative to Pre- Levels This table reports changes in liquidity and efficiency metrics for ASX 200 constituent stocks, six months and one year after a pre-entry period prior to Chi-X s introduction. The econometric specification expresses the liquidity metric for stock i on day t as the sum of a stock specific mean, indicator variables for the post-entry periods, control variables for price, volume and volatility, and an error term. We calculate event-effects based on the model estimates. Each period includes all trading days in the whole calendar month. We calculate the difference between the pre-entry and post-entry metrics and control variables, and add a */**/*** if these are significantly different at the 90%/95%/99% level. In the test, we double cluster standard errors by stock and date. We delete stocks which do not trade in all three periods. Base: October 2011 Base: September 2011 Base: August 2011 May 2012 November 2012 April 2012 October 2012 March 2012 September 2012 Panel A: Liquidity Metrics Quoted Spread (-30.18)*** (-30.64)*** (-16.83)*** (-14.89)*** (-9.81)*** (-7.27)*** Effective Spread (-16.74)*** (-21.34)*** (-20.77)*** (-32.17)*** (-6.12)*** (-9.91)*** Realised Spread 0.13 (0.32) (-5.28)*** (-2.91)*** (-9.58)*** 2.71 (2.89)*** 0.67 (0.89) Depth (`0,000s) 3.14 (3.32)*** (-0.13) 6.70 (6.12)*** 0.39 (0.45) 8.51 (6.25)*** 2.91 (2.15)** Constrained % 9.2 (24.66)*** 10.6 (25.98)*** 4.2 (12.09)*** 4.7 (13.60)*** 6.6 (20.03)*** 5.4 (14.63)*** Amihud Illiquidity (-8.23)*** (-9.27)*** (-10.86)*** (-7.80)*** (-4.96)*** (-4.83)*** Panel B: Efficiency Metrics 30 sec autocorrel 0.00 (1.78)* 0.01 (3.20)*** (-7.46)*** (-3.08)*** (-6.20)*** 0.00 (1.33) 60 sec autocorrel 0.01 (3.13)*** 0.01 (5.18)*** (-5.74)*** 0.00 (1.27) (-4.32)*** 0.01 (4.39)*** 5 min autocorrel 0.00 (0.00) 0.00 (-0.89) (-2.32)** (-2.38)** (-3.23)*** 0.00 (-0.18) 1 sec std dev (-15.69)*** (-14.74)*** (-40.36)*** (-30.38)*** (-9.58)*** (-8.26)*** 30 sec std dev (-11.85)*** (-21.49)*** (-33.86)*** (-32.93)*** (-7.40)*** (-7.69)*** 30 min std dev (-11.54)*** (-12.88)*** (-17.89)*** (-15.63)*** (-4.25)*** (-4.96)***

38 Table 10 Robustness Tests This table reports t-statistics from robustness tests for liquidity and efficiency metrics for ASX200 constituent stocks on varying levels of Chi-X s market share, with controls for price, volume and volatility. The econometric specification expresses the liquidity or efficiency metric for stock i on day t as the sum of a stock specific mean, proxy for Chi-X market share, control variables for price, volume and volatility, and an error term. We calculate means and event-effects based on the model estimates under different model specifications to quantify the level of competition. The base specification (1) has an observation period which runs from the 1 st of May 2012 to the 31 st of January 2013, with the event-variable being Chi-X s 10 day moving average market share of trading turnover, lagged by one day. The event-variable in (2) is a dummy equal to one for stock-days with Chi-X market share exceeding 5% of total trading turnover, and zero otherwise. The event-variable in (3) is the raw value of Chi-X s daily market share, rather than a moving average. Spreads are calculated in cents in (4) rather than in basis points. An extended period from July 2011 to January 2013 is considered in (5). The event-variable in (6) is Chi-X s market share as a percentage of on-market volume, rather than total trading volume. We calculate the difference between each liquidity metric and efficiency metric per incremental percentage of market share captured by Chi-X. T-Statistics are reported below, and we add a */**/*** if these are significantly different at the 90%/95%/99% level. In the test, we double cluster standard errors by stock and date. (1) (2) (3) (4) (5) (6) Panel A: Liquidity Metrics Quoted Spread (-16.81)*** (-14.25)*** (-10.26)*** (-13.23)*** (-9.47)*** (-13.51)*** Effective Spread (-14.18)*** (-14.30)*** (-4.62)*** (-13.88)*** (-39.00)*** (-10.51)*** Realised Spread (-7.04)*** (-7.71)*** (-1.23) (-6.55)*** (-7.96)*** (-4.49)*** Depth (`0,000s) (3.52)*** (3.37)*** (1.50) (3.52)*** (0.68) (-0.19) Constrained % (1.76)* (8.16)*** (3.18)*** (1.76)* (12.31)*** (1.06) Amihud Illiquidity (-2.53)** (-4.15)*** (-4.51)*** (-2.53)** (-4.42)*** (-0.60) Panel B: Efficiency Metrics 30 sec autocorrelation (-2.51)** (-3.73)*** (-4.07)*** (-2.51)** (4.81)*** (-2.69)*** 60 sec autocorrelation (-2.57)** (-2.32)** (-2.64)*** (-2.57)** (5.92)*** (-3.82)*** 5 min autocorrelation (-0.62) (-0.70) (-1.30) (-0.62) (-1.80)* (-0.67) 1 sec standard deviation (-7.34)*** (-8.50)*** (-8.51)*** (-7.34)*** (-6.17)*** (-5.18)*** 30 sec standard deviation (-14.59)*** (-17.30)*** (-12.08)*** (-14.59)*** (-10.07)*** (-12.05)*** 30 min standard deviation (-4.55)*** (-4.66)*** (-4.59)*** (-4.55)*** (-5.45)*** (-2.45)**

39 Table 11 Explicit Cost Reductions Subsequent to the Introduction of Competition This table reports the changes in the explicit costs of trading on the ASX. Documented are the total amounts traded in all ASX listed securities for the calendar year These traded values are further divided by the type of execution they were, consisting of on-market trades, on-market auction trades (both opening and closing), on-market crossings (such as Centrepoint trades) and off-market trade reports. Fees are constructed using information releases from the ASX in 2010 and Trade Value Old Pricing New Pricing Fee Change ($millions) Fees ASX Revenue ASX Revenue Fees ($millions) ($millions) ($millions) Trade Execution Fee 567, % % Trade Execution - Auctions 129, % % On-market crossings 50, % % Off-market crossings 265, % % Less: Large Participant Rebate Net

40 Table 12 Total Change in Welfare as a Result of Competition This table reports the total change in welfare as a result of the introduction of competition for the calendar year Explicit cost savings are constructed in Table 11 and represent reductions in ASX explicit fees. Implicit cost savings are constructed by multiplying the value traded in ASX200 securities during 2012 on the ASX venue by the minimum and maximum savings found in our main specifications reported in Tables 6 and 9. Chi-X volume is not considered in this calculation. Chi-X one-off connection fees are provided as the upper end of estimates provided by market participants of establishing new IT infrastructure. The Chi-X monthly connection fee is obtained directly from Chi-X and verified with market participants. The ASIC regulatory fee increase is considered as the entire amount proposed for cost recovery as outlined in Table 3. Cost Reductions $Millions Explicit Cost Savings - Fees 7.79 ASX 200 traded value 2012 ($millions) 952, Minimum implicit cost Chi-X Maximum implicit cost Chi-X Implicit Cost Saving Spreads (Min - Max) ( ) bps bps Cost Increases Chi-X Connection Fees (@27 Brokers) Once Off (@200K) 5.4 Yearly Subscription Fees(@2k/Month) Less: Chi-X Connection Fees Less: ASIC Regulatory Increase Total Welfare Change

41 Figure 1 Chi-X Australia Market Share of Daily Trading Turnover This figure presents the percentage of total daily dollar trading turnover in ASX-listed cash equities executed on Chi-X Australia from its introduction on the 31 st of October 2011 to the 31 st of January Total volume includes on- and off-market (reported) trades for both ASX and Chi-X. These offmarket trades (for both ASX and Chi-X) are excluded in the reported on market volume. Figure 2 ASX and Chi-X Daily Trading Turnover This figure presents the total daily cash equities turnover on the ASX and Chi-X trading venues in billions of dollars from the 31 st of October 2011 to the 31 st of January 2013.

42 Figure 3 Mean Constrained and Crossed Spreads for ASX 200 This figure presents the average percentage of the trading day quoted spreads are constrained at minimum tick and crossed for ASX 200 constituent securities from the 1 st of July 2011 to the 31 st of January Figure 4 Volume Weighted Quoted, Effective and Realised Spreads for ASX 200 This figure presents quoted, effective and realised spreads for ASX 200 constituent securities from the 1 st of July 2011 to the 31 st of January Metrics are weighted by each stock s daily trading volume.

43 Appendix I Chi-X Australia participants and date eligible to commence trading Date Admitted Chi-X Australia Participant 31/10/2011 Bell Potter Securities Limited BBY Ltd Citigroup Global Markets Australia Pty Limited Commonwealth Securities Limited Credit Suisse Australia (Equities) Limited Deutsche Securities Australia Limited GETCO Australia Pty Limited Goldman Sachs & Partners Australia Pty Ltd Instinet Australia Pty Ltd ITG Australia Limited J.P. Morgan Securities Australia Limited Macquarie Securities (Australia) Limited Merrill Lynch Equities (Australia) Limited Moelis Australia Securities Pty Ltd Morgan Stanley Australia Securities Limited Nomura Australia Limited Patersons Securities Limited Penson Financial Services Australia Pty Ltd RBC Securities Australia Pty Ltd RBS Equities (Australia) Limited UBS Securities Australia Ltd Virtu Financial Asia Pty Ltd 16/11/2011 Interactive Brokers LLC 22/05/2012 E.L. & C. Baillieu Stockbroking Ltd 13/08/2012 Australian Investment Exchange Ltd 29/10/2012 ABN AMRO Clearing Sydney Pty Ltd 19/11/2012 State One Stockbroking 21/01/2013 ETrade Australia Securities Ltd