Double volume cap (DVC) transparency regime under MiFID II
The double volume cap (DVC) mechanism represents the “unique and unprecedented feature” of the EU financial legislation (Steven Maijoor, the Chair of European Securities and Markets Authority, The state of implementation of MIFID II and preparing for Brexit, WFE Annual Meeting 2018, 3 October 2018, ESMA70-156-427).
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27 March 2024
Council agrees negotiating mandate on proposal to strengthen market transparency: - Regulation reviewing the Markets in Financial Instruments Regulation (‘MIFIR’) - Directive reviewing the Markets in Financial Instruments Directive ('MiFID II') The draft regulation clarifies the limitation on the dark trading, lifting the complexity and the burden of the system. The current double volume cap establishes that the amount of dark trading on an individual venue may not exceed 4% of total trading and the amount of dark trading in an equity instrument in the EU may not exceed 8% of total trading. The new single volume cap set out in the draft regulation relies solely on the EU-wide threshold set at 10%.
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DVC is a major innovation MiFID II applied to all equity instruments. The objective of the double volume cap is to limit the execution of transactions in dark pools.
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Double volume cap intends to put an upper limit (cap) on the amount of shares that market participants can trade under a transparency waiver. |
The double volume cap deals with two types of transactions benefiting from a waiver:
(1) transactions that are executed in systems where the price is determined by reference to a price generated by another system (reference price waiver); and
(2) transactions that are bilaterally negotiated and formalised on a trading venue (negotiated transaction waiver).
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See also: Double Volume Cap Mechanism, the ESMA website
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The double volume cap limits the transactions that can be executed under both those waivers at 4% at a trading venue level and at 8% for all EU trading venues.
Once those thresholds are passed, trading venues are required to suspend dark trading for a 6 month period.
The above limits are intended to preserve the quality of the price determination process on lit venues.
The said procedure is based on Article 5 MiFIR, which provides that the EU National Competent Authorities (NCAs) suspend for a period of 6 months dark trading on their trading venue(s) (TV(s)) for those equity and equity-like instruments, which record a too high level of dark trading and thus breach the relevant DVC thresholds at TV level (4 %) or at EU level (8 %).
Steven Maijoor, ESMA Chair, while referring to the impact of this mechanism on market structures, has assessed (ESMA70-156-427, 21 June 2018) that:
- trading flow previously executed under one of the two waivers covered by the double volume cap, is in particular flowing to systematic internalisers (SIs) and periodic auction trading systems,
- while the share of trading on new periodic auction trading systems is still low, it can be observed that periodic auction trading systems are increasingly attracting trading flow (for instance, since the first suspension of dark trading in March 2018, trading volumes on periodic auction trading systems have tripled).
The above developments have triggered a concern that some periodic auction systems may be designed with the intention to circumvent the double volume cap. Therefore, ESMA is carrying out a fact-finding exercise on the different periodic auction trading systems to understand the various features of these systems. If deemed necessary, this may result in further ESMA measures or recommendations. Under MiFID II/MiFIR ESMA is required to publish the DVC calculations aiming to limit the trading under the reference price waiver and the negotiated transaction waiver for liquid instruments in an equity instrument. ESMA only started to publish the DVC results in March 2018 (due to data quality and completeness issues), from then on, the publication was produced on a regular basis once a month.
ESMA Annual Report 2018 of 14 June 2019 (ESMA20-95-1136, p. 22) refers to the following regulator’s actions taken to ensure convergence and clarity on the timing of suspensions due to DVC:
- ESMA published every month, on a voluntary basis, an additional file providing the information on which instruments are expected to be suspended by NCAs, the level of the suspension (i.e. TV level or EU level) and the start and end date of the suspension,
- ESMA published every month a revised version of the previous five monthly DVC results in order to take into account corrections performed by reporting entities and to allow for the revocation of suspensions erroneously triggered due to wrong reporting.
The ESMA has set out the detailed clarifications on the DVC mechanism in Questions and Answers on MiFID II and MiFIR transparency topics.
The Explanatory Memorandum to European Commission Proposal of 25 November 2021 for a Regulation of the European Parliament and of the Council amending Regulation (EU) No 600/2014 as regards enhancing market data transparency, removing obstacles to the emergence of a consolidated tape, optimising the trading obligations and prohibiting receiving payments for forwarding client orders (COM(2021) 727 final) assessed that while rules like the “double volume cap” intend to put an upper limit (cap) on the amount of shares that market participants can trade under a transparency waiver, such provisions, “apart from being resource-intensive to administer on the part of the regulators, have proven to be rigid and collectively introduce unnecessary complexity in the operation of equity markets”.
The review therefore plans to streamline the complex interplay between transparency waivers and the double volume cap.
Article 1(4) of the Proposal replaces the double volume cap with a single volume cap set at 7% of trades that are executed under the reference price waiver or the negotiated trade waiver.
Recital 7 of the above European Commission Proposal of 25 November 2021 contained the following wording:
'Dark trading is trading without pre-trade transparency, using the reference price waiver laid down in Article 4(1), point (a) of Regulation (EU) No 600/2014 and the negotiated trade waiver laid down in Article 4(a) point (a), point (i) of that Regulation. The use of both waivers is capped by the double volume cap (‘DVC’). The DVC is a mechanism that limits the level of dark trading to a certain proportion of total trading in an equity instrument. The amount of dark trading in an equity instrument on an individual venue may not exceed 4% of total trading in that instrument in the Union. When this threshold is breached, dark trading in that instrument on that venue is suspended. Secondly the amount of dark trading in an equity instrument in the Union may not exceed 8% of total trading in that instrument in the Union. When this threshold is breached all dark trading in that instrument is suspended. The venue specific threshold leaves room for continued use of those waivers on other platforms on which trading in that equity instrument is not yet suspended, until the Union wide threshold is breached. This causes complexity in terms of monitoring the levels of dark trading and of enforcing the suspension. To simplify the double volume cap while keeping its effectiveness, the new single volume cap should rely solely on the EU- wide threshold. That threshold should be lowered to 7 % to compensate for a potential increase of trading under those waivers as a consequence of abolishing the venue specific threshold".
The document of 20 December 2022 reflecting the Council's negotiating mandate on this proposal modified last two sentences of Recital 7 as follows:
"To simplify the double volume cap while keeping its effectiveness, the new single volume cap should rely solely on the EU-wide threshold set at 10 % in respect of the reference price waiver. Thus, the limitation on the dark trading remains yet the complexity and the burden of the system would be lifted".
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Briefing Note, ESMA data systems for MiFID II/MiFIR and MAR, 6 December 2017, ESMA71-99-669 |
DVCAP – ESMA system to implement Double Volume Cap Mechanism
In order to ensure the use of waivers for pre-trade transparency does not harm price formation, MiFIR introduces a mechanism that caps the amount of trading, in terms of volume, executed under two types of waivers provided for in MiFIR.
To ensure the implementation of the Double Volume Cap regime, ESMA will publish at the beginning of every month the percentage of trading under the relevant waivers.
ESMA will also publish an interim report in the middle of the month in case the previously published reports have identified that the amount of trading under the waivers is approaching any of the two limits specified in MiFIR.
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Steven Maijoor, the Chair of European Securities and Markets Authority, The state of implementation of MIFID II and preparing for Brexit, WFE Annual Meeting 2018, 3 October 2018, ESMA70-156-427 |
Double Volume Cap
Another major innovation of MiFID II is the so-called double volume cap mechanism that applies to all equity instruments and is a truly unique and unprecedented feature of EU legislation. The objective of the double volume cap is to limit the execution of transactions in dark pools, i.e. on trading venues where trading interests interact without full pre-trade disclosure. The limit should preserve the quality of the price determination process on lit venues. The double volume cap tackles two types of transactions benefiting from a waiver:
(1) transactions that are executed in systems where the price is determined by reference to a price generated by another system – the so-called reference price waiver; and
(2) transactions that are bilaterally negotiated and formalised on a trading venue – the negotiated transaction waiver.
The double volume cap limits the transactions that can be executed under both those waivers at 4% at a trading venue level and at 8% for all EU trading venues. Once those thresholds are passed, trading venues are required to suspend dark trading for a 6 month period.
Since the application of MiFID II, the double volume cap mechanism resulted in the suspension of dark trading for more than 1200 instruments, mainly equities.
Questions and Answers on MiFID II and MiFIR transparency topics, ESMA70-872942901-35
The double volume cap mechanism
Question 3 [Last update: 03/10/2016]
How will the DVC be applied to newly issued shares?
Answer 3
ESMA will publish the percentage of trading in a financial instrument carried out under the reference price waiver and the negotiated transactions waiver under Article 4(1)(b)(i) of MiFIR for shares newly admitted to trading or traded from the start of trading.
However, since according to Article 5(1) of MiFIR the double volume cap mechanism can only apply where the relevant thresholds are breached over the previous 12 months, the suspension of waivers when the thresholds are breached can only be triggered when at least 12 months of data for the volume of total trading and the percentage carried out under the waivers is available.
Question 4 [Last update: 03/10/2016]
What are the implications of exceeding a relevant threshold in a mid-month report?
Answer 4
Pursuant to Article 5(4) of MiFIR ESMA shall publish within five working days of the end of each calendar month, the total volume of Union trading per financial instrument in the previous 12 months, the percentage of trading in a financial instrument carried out across the Union under the waivers and on each trading venue in the previous 12 months, and the methodology that is used to derive at those percentages.
In the event that the report referred to in Article 5(4) of MiFIR identifies any trading venue where trading in any financial instrument carried out under the waivers has exceeded 3,75 % of the total trading in the Union in that financial instrument or that overall Union trading in any financial instrument carried out under the waivers has exceeded 7,75 % based on the previous 12 months’ trading, respectively, ESMA shall publish an additional report within five working days of the 15th day of the calendar month in which the report referred to in Article 5(4) of MiFIR is published.
That report shall contain the information specified in Article 5(4) in respect of those financial instruments where 3,75 % has been exceeded or in respect of those financial instruments where 7,75 % has been exceeded, respectively (see Article 5(5) and (6) of MiFIR).
The question is what the consequences are if according to the aforementioned “mid-month reports” one or more of the respective thresholds (the 3,75%, the 7,75%, the 4% or the 8%) are exceeded.
Pursuant to Article 5(2) of MiFIR, the NCA that authorised the use of the respective waivers shall within two working days suspend their use on that venue in that financial instrument based on the data published by ESMA referred to in Article 5(4) of MiFIR, for a period of six months when the percentage of trading in a financial instrument carried out on a trading venue under the waivers has exceeded the limit referred to in Article 5(1)(a) of MiFIR.
When the percentage of trading in a financial instrument carried out on all trading venues across the Union under those waivers has exceeded the limit referred to in Article 5(1)(b) of MiFIR, all NCAs shall within two working days suspend the use of those waivers across the Union for a period of six months.
On this basis the obligation to suspend trading derives from the thresholds as laid down in Article 5(1) of MiFIR.
However, factually, suspension for a period of six months is ordered by the NCA on the basis of the ESMA report pursuant to Article 5(4) of MiFIR, as explicitly stated in Article 5(2) and (3), respectively.
As a trading suspension is ordered on the basis of the report pursuant to Article 5(4) and as the legal hook for a trading suspension does not cross-refer to the mid-months reports pursuant to Article 5(5) and (6), there is no direct legal consequence of these reports even if they were to state that trading has exceeded 4 % or 8 %, respectively.
Question 5 [Last update: 12/07/2018]
In case of a corporate action where a traded ISIN is replaced with a new ISIN, how will the new ISIN be treated for the purposes of the DVC?
Answer 5
In case of a corporate action, where a traded ISIN is replaced with a new ISIN, the new ISIN will be treated as a newly admitted to trading or newly traded financial instrument and the ESMA DVC calculations and publication will not take the trading activity of the old ISIN into account.
In addition, while ESMA will publish the percentage of trading in this financial instrument carried out under the reference price waiver and the negotiated transaction waiver from the start of trading, suspensions following the breach of the thresholds set out under Article 5 of MiFIR should only be triggered when at least 12 months of data for the new ISIN is available.
ESMA is however reflecting on ways and means to ensure more continuity in the treatment of financial instruments subject to corporate actions and might decide to revisit this approach in the future.
Question 6 [Last update: 28/01/2022]
When a trading venue starts operating or admits or trades an equity or equity-like financial instrument for the first time, who has the responsibility to check whether the respective instrument is already subject to an EU level suspension under the Double Volume Cap mechanism?
Answer 6
Before a trading venue starts operating as well as before an instrument is admitted to trading or traded on a trading venue for the first time, that trading venue should verify whether the respective instrument(s) is(are) traded on other trading venues and is(are) subject to an EU level suspension under the Double Volume Cap mechanism. In case of an active suspension, the start of the operations or the admission to trading or trading can still take place but trading under the waivers as per Articles 4(1)(a) and 4(1)(b)(i) of MiFIR should not be allowed until the end of the suspension for the concerned instrument(s).
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