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UPDATE 2-Share trading in Europe set to be fragmented by Brexit

(Adds FCA reaction)

LONDON, Oct 26 (Reuters) - The EU’s markets watchdog said on Monday banks and asset managers based in the bloc should execute most of their share trades inside the EU after full Brexit from January, in a step set to fragment cross-border markets.

Large chunks of cross-border share trading are currently done on platforms in London, but Britain’s unfettered access to the bloc ends on Dec. 31.

The European Securities and Markets Authority (ESMA) set out a revised “share trading obligation”, or STO, that mandates where banks and other users of stock markets must trade EU-listed shares from January if Brussels decides not to allow London’s unfettered access in share trading to continue.

ESMA eased previous guidance that EU shares must be traded inside the bloc in one respect, saying that shares listed on exchanges inside the bloc can still be traded on platforms in London if they are traded in sterling.

The EU is keen to build up its own capital market to cut reliance on London, and ESMA said trading in a non-EU currency introduced a currency risk for EU investors.

Fewer than 50 EU-listed shares are traded in sterling in London, accounting for less than 1% of total EU trading, ESMA said.

London-based pan-European platforms Cboe, the London Stock Exchange’s Turquoise, and Aquis Exchange trade shares listed on EU exchanges.

“This revised guidance aims at addressing the specific situation of the small number of EU issuers whose shares are mainly traded on UK trading venues in pounds,” ESMA said.

ESMA said it had done the “maximum possible” to avoid a clash with Britain over where shares must be traded from January.

Britain has yet to set out its own rules on trading of EU-listed shares, saying the best solution would be for Brussels to extend full access.

“However, we note ESMA’s latest interpretation of the scope of the EU STO, and we will set out our approach in due course,” Britain’s Financial Conduct Authority said in a statement.

Bankers hope that if Britain and the EU agree on a trade deal ahead of January, that might encourage Brussels to offer stock and derivatives trading access too.

Cboe, Turquoise and Aquis have opened hubs in the EU that are ready to offer euro-denominated trading in EU-listed shares to avoid disruption to clients.

Turquoise and Aquis declined to comment. Cboe had no immediate comment. ESMA and the FCA have yet to say where derivatives must be traded from January. (Reporting by Huw Jones; Editing by Kirsten Donovan and Mark Potter)

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