Make dark pools more transparent – The TRADE poll

Market participants are demanding more post-trade transparency from dark pools, according to the results of December's poll on
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Market participants are demanding more post-trade transparency from dark pools, according to the results of December's poll on

When asked what changes they would welcome to the regulation of dark pools in 2011, a total of 47% of respondents called for an increase in post-trade transparency. Only 20% of respondents asserted that no change to dark pool regulation was required in the next 12 months, while the remainder were split between recommending minimum order size limits (21%) and prescribed order handling rules (12%).

The findings reflect the reality that traders executing off-exchange often find that even the most elementary details of their trades may not be available afterwards. They are also in line with the expressed intentions of regulators both in Europe and the US to improve post-trade transparency. The increased number of dark trading options appears to be adding to the pressure for more post-trade information to help buy-side institutions to understand how to place their orders for best effect.

In October 2009, US regulator the Securities and Exchanges Commission (SEC) proposed that dark venues and alternative trading systems should be required to report their trades on the US consolidated tape in real time, with the venue identified. An exemption for block trades of over US$200,000 would be granted to help maintain trader anonymity.

In addition, the SEC issued a concept release in Q1 2010 in which it put forward the idea of a ”trade-at' rule, intended to bring liquidity back onto lit venues. The rule would prohibit any market centre from executing a trade at the national best bid or offer (NBBO) unless it was displaying that price at the time it receive the incoming contra-side order. If the venue was not displaying the NBBO, it could either execute the order at a “significant” level of price improvement, or route ”intermarket sweep orders' to the full displayed size of NBBO quotations and then execute the balance of the order at the NBBO – meaning that a dark pool that could not offer price improvement of more than a penny for stocks trading over US$1 would have to route out any displayed liquidity at the NBBO before filling any outstanding amount in its own book.

Meanwhile in Europe, the European Commission (EC) has proposed in its review of MiFID, launched 8 December 2010, that a consolidated tape should be introduced to improve post-trade transparency. The EC also suggested that post-trade reports be published as close to real time as possible by all regulated markets, multilateral trading facilities (MTFs) and organised trading facilities (OTFs) – a new category which would include broker crossing networks (BCNs). The EC consultation asks for feedback on the introduction of a system of flags for OTC trades to identify where an execution took place.

The Committee of European Securities Regulators, superseded by the European Securities and Markets Authority in January 2011, had already proposed in April 2010 that non-displayed trading venues in Europe that use MiFID's reference price waiver should be subject to a minimum order size. However this proposal met with strong opposition from dark pool operators and brokers, who argued that trading would be forced elsewhere at potentially higher costs while competition and innovation would be unduly restricted.

Now, the EC consultation on MiFID has also proposed that BCNs that allow third-party access should be classified as MTFs, while it has also requested feedback on the idea that OTFs should become MTFs, once they reach a certain level of business. The glare of regulatory scrutiny is likely to intensify in 2011, but whether rule changes will yield light as well as heat remains to be seen.

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