New Australian dark pool regime unveiled by ASIC

Australia's securities watchdog claimed it was taking a "measured response" on use of dark pools in the Australian equity market while imposing a minimum size threshold and other new measures on pool operators.

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Australia’s securities watchdog claimed it was taking a “measured response” on use of dark pools in the Australian equity market while imposing a minimum size threshold and other new measures on pool operators.

On Monday, the Australian Securities and Investments Commission (ASIC) released for consultation a series of measures intended to increase transparency in dark pools and give further guidance regarding high-frequency trading (HFT) in the Australian equities markets.

ASIC proposed a minimum size threshold for dark pool trades triggered when non-displayed trading in a particular security exceeds 10%; a no-cost opt out for pool participants; improved procedures to prevent pool operators from discriminating among participants; a requirement that dark trade reporting include whether the operator was acting as an agent or principal and the venue where the trade was executed; and more detailed disclosures regarding aggregation, fees, conflicts of interest and pool operations.

The watchdog also recommended that HFT strategies, totalling 22% of total Australian equity market turnover, must accommodate a minimum resting time of 500 milliseconds on orders below A$500 for equities traded on the Australian Securities Exchange and Chi-X Australia. Manipulative trading criteria will also be expanded to account for the impact of the order and whether a false or misleading market has been created.

In addition, new rules prohibiting cash payments for order flow and controls on soft-dollar incentives, such as research, will take effect immediately. A potential reduction in tick sizes for tick constrained equities is also under consideration.

The HFT rules will take effect in September 2013, while the dark pool and crossing regulations will be phased in between April and September. Australian market participants have until 10 May to submit comments and final guidelines will be issued in July or August of 2013.

ASIC’s research found that of the eight dark pools which permit proprietary flow, 38% of client trades were executed against proprietary trading desks. ASIC deputy chairman Belinda Gibson maintained that while this does not automatically create a conflict of interest, pool participants need better information about how their orders are being executed and with whom.

The official report also cited “a risk that if too much liquidity shifts away from lit exchange markets, it may lead to … worse prices for those trading on lit exchange markets as well as those trading in the dark.” Greg Yanco, senior executive leader, market & participant supervision, commented that ASIC is taking a “measured response”, preferring to monitor and review the minimum size threshold on a quarterly basis, rather than immediately introduce regulation.

ASIC’s proposed tick reduction pilot programme is aimed at aiding ASX200 stocks priced between A$2 and A$5, almost all of which trade at the minimum tick size for 90% of the day.

ASIC also noted a change in HFT behaviour since the messaging-based cost recovery structure was introduced in January 2012, with Gibson suggesting participants had refined their algorithms to reduce costs. According to ASIC, the average holding time across the ASX200 was 42 minutes, while the average order-to-trade ratio was 10:1. Furthermore, the 7% of high-frequency traders with order-to-trade ratios above 50:1 contributed to less than 1% of market turnover.

Popular concerns about widespread manipulation within HFT and dark pools are not substantiated by market conditions, Gibson said. Although potential breaches of Market Integrity Rules and the Corporations Act were uncovered during the course of ASIC’s review, these were dealt with within the existing regulatory framework.

ASIC chairman Greg Medcraft commented, “These rules go to the heart of what ASIC is about, which is facilitating investor confidence. Algorithmic trading is the new normal and the question now is how do we manage it.”

Reporting by Will Haskins