Owned by Canada’s big banks and other institutional investors, Toronto-based Alpha Trading System is expected to capture a big chunk of the stock trading action in Canada, according to an Oct. 20 report from TD Newcrest of Toronto.

The report suggest that Alpha, launched in early November and one of eight alternative trading systems in Canada, will handle 20%-25% of the nation’s trading volume within a year’s time.

That would represent a big loss of business for the Toronto Stock Exchange, a subsidiary of Toronto-based TMX Group Inc. , which currently has the lion’s share of Canadian trading activity — 98.91% of trading volume — for the year ended Sept. 30, according to the Investment Industry Regulatory Organization of Canada. Since its launch, Alpha has captured 10%-15% of the total trading volume of its 10 TSX-listed securities.

Although not trying to downplay the achievements of other ATSes, the report says the arrival of Alpha on the trading landscape in Canada has arguably much more significant implications for traders.

As ATSes gain popularity, overall trading activity should expand by 10%-15%, the report notes. Although Alpha will capture up to a quarter of the expanding pie, it is unlikely the TSX’s share will fall below 50%, the report says.

“We don’t assign a high probability to that happening,” says Peter Haynes, co-author of the report and managing director of equity index products with TD Newcrest. “That would discount the power of the TSX’s network to a great degree. There’s so much inertia embedded in the structure of trading in Canada at this stage, where the TSX has had such a large and dominant position for so long. To assume that within a year it could lose control is unrealistic.”

Robert Fotheringham, senior vice president of trading for TSX Markets, says the exchange is prepared for the competition: “At this early stage, these market share numbers are speculation, but I can say that Toronto Stock Exchange plans to continue to compete aggressively.”

With plans to roll out refinements to the high-speed Quantum trading platform to reduce trading response times this year, Fotheringham says the TMX group is well positioned in the marketplace. Also, the TSX will be launching a smart-order system in June 2009, a mechanism that will ensure its users get the best offer no matter what exchange or crossing network they trade on.

According to IIROC, the seven ATSes (excluding Alpha) account for 1.1% of the volume of trades in Canada as of the year ended Sept. 30. Realistically, Haynes says, these ATSes will gain 3%-5% of the market volume within the next 12 months.

Alpha’s lead over other ATSes, according to the TD report, stems from the dealer sponsors of its system, which make up 52% of the trading volume on the TSX and TSX Venture Exchange. This gives them substantial control over order flow in Canada.

Jos Schmitt, CEO of Alpha, says the success of any execution depends on its ability to develop and attract liquidity. “If you look at the global fundamental component of Alpha that makes a key difference, [it] is the backing of the large banks in Canada,” he says.

Although the TD report predicts big things for Alpha, Toronto-based Pure Trading, a subsidiary of Canadian National Stock Exchange Inc., is the current leader in market share among ATSes. It has captured 0.416% of the value traded in Canada and 0.67% of the number of trades in Canada during the year ended Sept. 30, which was more than any other ATS. Results were similar for 2007. However, Toronto-based Chi-X Canada ATS Ltd., a subsidiary of Instinet LLC. which came on the scene in February, has gained notable share in the number of trades. Currently, it has captured 0.35% share in the number of trades for the year and 1.36% in the last quarter, averaging $4 million in trades a day. In volume traded, it falls third among the seven ATSes at 0.076%.

The Canadian Securities Administrators and the Ontario Securities Commission initially proposed the regulatory framework for ATSes in 2000. At the time, the OSC felt Canada’s capital markets lagged behind the world in competitiveness and market structure. “[Regulators] realized they would need to be more forward looking and kick-start competition,” says Ian Bandeen, vice-chairman and CEO of the CNSX, formerly the CNQ. In the U.S., ATSes such as Kansas City-based BATS Trading Inc. and New York-based Liquidnet Inc., had been extremely successful in stealing market share from the NASDAQ and New York Stock Exchange. The NYSE’s current market share in trading volume is just below 50%.

@page_break@Bandeen launched Canadian Trading and Quotation Inc., now the CNSX, in 2004, becoming the first direct competitor to the TSX with a gamut of services: listing, trading and data selling. CNQ positioned itself as a niche exchange for small- and mid-sized companies to gain liquidity.

Within two years, other ATSes began emerging, taking on different niches. Toronto-based Perimeter Markets Inc. arrived on the scene with a “dark” marketplace — BlockBook — in August 2005, in which clients and dealers can trade anonymously, without disclosing their size and price. “Blockbook was created to consolidate the ‘upstairs’ market and make it more efficient using an electronic platform,” says David Hecht, vice president of sales for Perimeter. Traditionally, dealers would fill large blocks of orders by accessing their client base via the phone. Toronto-based Liquidnet Canada Inc., a subsidiary of Liquidnet Holding Inc., opened a competing dark pool in August 2006.

Watching dark ATSes emerge in the U.S., Bandeen then launched Pure Trading, Canada’s first “light” marketplace, a platform solely for high-speed trading in which all aspects of an offer are disclosed.

“We’re just in the early days of alternative marketplaces in Canada,” says Simon Romano, a partner with Stikeman Elliott LLP in Toronto, who has helped several ATSes with legal issues. Romano says the industry is likely to eventually consist of two or three ATSes.

“Most industries have only a few major players, and Canada already has liquidity issues, so it seems unlikely that a large number of alternative trading systems could survive,” he says. IE