Attack of the clones
Jul 2nd 2009
From The Economist print edition
New trading venues offer a challenge to conventional exchanges
THERE is more than a hint of science fiction in the new jargon of finance. Systemic councils are being formed all over the place. America has appointed a “special master” to look at pay practices in bailed-out firms. And in the world of exchanges, “dark pools” are rising fast.
Dark pools are trading venues that match buyers and sellers anonymously. By concealing their identity, as well as the number of shares bought or sold, dark pools help institutional investors avoid price movements as the wider market reacts to their trades.
Most dark pools are operated by electronic exchanges and broker-dealers. As conventional exchanges increasingly handle small, frequently traded orders, dark pools have become the preferred venue for large “block” transactions. In America more than 40 dark pools are in operation, accounting for an estimated 9% of traded equities. The EU’s introduction of the Markets in Financial Instruments Directive (MiFID), a framework for financial services that provides for off-exchange trading, is sparking similar growth in Europe (see chart). On June 29th BATS Europe, an upstart electronic exchange with American roots, announced plans to offer dark-pool trading from next month.
The swell of dark pools raises questions for investors, regulators and exchanges. For investors, too many new trading venues may cause liquidity to fragment. Turquoise, a European dark-pool operator owned by a consortium of investment banks, will launch an aggregator on July 20th to scour the dark pools of nine broker-dealers including Citibank, Deutsche Bank and Merrill Lynch in an attempt to offer investors better pricing and a higher rate of matching trades. The market will also do its bit. Although dark pools have captured a significant chunk of equity-trading volumes, many are still struggling to turn a profit. “I have no doubt there will be downward pressure on the total number of dark pools,” says Marcus Hooper of Pipeline, another operator, who reckons consolidation will go furthest in Europe.
Regulators voice two contrasting concerns. One is that some dark pools give off signals, or indicators of interest, about positions that others can exploit. Backers say the pools are designed to reduce the ability of investors to front-run large orders. The other is that they hamper price discovery. Mary Schapiro, the chairman of the Securities and Exchange Commission, has expressed concern about their opacity. Immediate disclosure of orders, after they have been executed, is the obvious answer.
Conventional exchanges are already struggling with lower trading volumes and a meagre flow of public share offerings, both side-effects of the recession. They can ill afford to lose more business to dark pools. Some incumbents are taking the fight directly to the upstarts: the London Stock Exchange, one of the world’s oldest bourses, announced on June 29th that it had received regulatory approval for the launch of Baikal, its own pan-European dark pool. Yoda would approve.
Jul 2nd 2009
From The Economist print edition
New trading venues offer a challenge to conventional exchanges
THERE is more than a hint of science fiction in the new jargon of finance. Systemic councils are being formed all over the place. America has appointed a “special master” to look at pay practices in bailed-out firms. And in the world of exchanges, “dark pools” are rising fast.
Dark pools are trading venues that match buyers and sellers anonymously. By concealing their identity, as well as the number of shares bought or sold, dark pools help institutional investors avoid price movements as the wider market reacts to their trades.
Most dark pools are operated by electronic exchanges and broker-dealers. As conventional exchanges increasingly handle small, frequently traded orders, dark pools have become the preferred venue for large “block” transactions. In America more than 40 dark pools are in operation, accounting for an estimated 9% of traded equities. The EU’s introduction of the Markets in Financial Instruments Directive (MiFID), a framework for financial services that provides for off-exchange trading, is sparking similar growth in Europe (see chart). On June 29th BATS Europe, an upstart electronic exchange with American roots, announced plans to offer dark-pool trading from next month.
The swell of dark pools raises questions for investors, regulators and exchanges. For investors, too many new trading venues may cause liquidity to fragment. Turquoise, a European dark-pool operator owned by a consortium of investment banks, will launch an aggregator on July 20th to scour the dark pools of nine broker-dealers including Citibank, Deutsche Bank and Merrill Lynch in an attempt to offer investors better pricing and a higher rate of matching trades. The market will also do its bit. Although dark pools have captured a significant chunk of equity-trading volumes, many are still struggling to turn a profit. “I have no doubt there will be downward pressure on the total number of dark pools,” says Marcus Hooper of Pipeline, another operator, who reckons consolidation will go furthest in Europe.
Regulators voice two contrasting concerns. One is that some dark pools give off signals, or indicators of interest, about positions that others can exploit. Backers say the pools are designed to reduce the ability of investors to front-run large orders. The other is that they hamper price discovery. Mary Schapiro, the chairman of the Securities and Exchange Commission, has expressed concern about their opacity. Immediate disclosure of orders, after they have been executed, is the obvious answer.
Conventional exchanges are already struggling with lower trading volumes and a meagre flow of public share offerings, both side-effects of the recession. They can ill afford to lose more business to dark pools. Some incumbents are taking the fight directly to the upstarts: the London Stock Exchange, one of the world’s oldest bourses, announced on June 29th that it had received regulatory approval for the launch of Baikal, its own pan-European dark pool. Yoda would approve.
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