The industry may question the integrity of alternative trading system (ATS) operators after a rash of press reports following New York Attorney General Eric Schneiderman bringing suit against Barclays for alleged misrepresentation of its ATS, but industry watchers warn not to paint each operator with the same brush.
It is difficult no to, acknowledges Matthew Samelson, CEO and director of equities at industry analyst firm Woodbine Associates.
Since the attorney general filed his suit, Citi, Credit Suisse, Deutsche Bank, Goldman Sachs and UBS have either been fined by the US Securities and Exchange Commission (SEC) or have acknowledged that they are helping regulators or authorities with on-going investigations.
However, it has been sometime since the industry has seen criminal charges rather than civil fines to address bad behavior.
“I would not surprise me to see some of the dark pools getting written up,” Samelson added. “I’m not damning the dark pools, but if a regulator does a hard look at a broker, usually they will find something. It wouldn’t surprise me if they found something.”
For Attorney General Schneiderman, who claims that Barclays falsely underrepresented the concentration of aggressive high-frequency trading in its dark liquidity pool, misrepresented its ‘Liquidity Profiling’ service that is supposed to protect investors from predatory behaviour and favouring its own dark liquidity pool when routing client orders to other venues after claiming it did not.
The bank vehemently denies all of these charges in its own court filing.
Samelson believes that there is a persuasive inaccurate point that dark liquidity pool operators do not disclose how their platforms operate to anyone.
“We know this not to be true since we wrote a report on half of the dark liquidity pool population that represents 95% of dark liquidity pool volume operate a couple of years ago,” he explained. “If we were able to get that information, it strikes me that brokers and institutional investors also could be able to get the same information.”
Keep it in perspective
Although June and July proved difficult for the reputations of many banks, there is little chance that regulators would seek to do away with dark liquidity pools.
“The value proposition of dark pools just are too great,” said Samelson. “Just because there is one bad egg, doe not tarnish everybody.”
Yet, individual ATS operators like Barclays have seen significant drop in their ATS volumes since the various issues have come to light.
“People are very conservative, they do not want to risk routing to that venue until the investigation is complete,” said Sayena Mostowfi, senior analyst at industry research firm Tabb Group.
It too early to tell what the effect the different ATS stories has had on overall dark liquidity volumes. “The Office of the New York Attorney General issued its press release on 25 June and that month’s dark liquidity volume dropped 5%,” she added. “That 5% could be attributed to other factors, but we did not see volume levels drop 30% or more.”
Both analysts doubt that any of the ATSes under scrutiny currently will wind up with a similar fate as crossing-network operator Pipeline Trading Systems.
In October 2011, the SEC fined Pipeline US$1 million for failing to disclosing that a vast majority of orders were filled Milstream Strategy Group, an affiliated operation of Pipeline, that sought to predict Pipeline customers’ trading intentions and trade elsewhere in the same direction as Pipeline customers before filling their orders on Pipeline’s crossing network.
A month later, Pipeline’s chairman and CEO retired and left the business respectively. But even after rebranding the company as Aritas Securities there was no way to save the firm, which closed its doors in May 2012 after selling off its technology assets.
“This is a bit different than the Pipeline event,” said Samelson. “There is no assertion that parties were hurt or to what extent they might have been hurt on a monetary level.”