SmartPool, exchange group NYSE Euronext’s dark trading facility, is to extend its stock universe to mid-cap names, but some brokers warn that fragmentation could increase the cost of trading in less-liquid equities.
From next month, SmartPool will trade constituents of the FTSE 250, FTSE Italia Mid Cap, Germany’s MDAX, Switzerland’s SMIM indices and mid-cap stocks from the Dow Jones STOXX 600 index.
Central counterparty services will be provided by LCH.Clearnet for Euronext-listed stocks and by EuroCCP for all other European markets. Trades on SmartPool are executed at the mid-point of a stock’s price on the primary market.
SmartPool argues that the anonymity afforded by dark pools makes them particularly useful for trading mid-caps, for which market impact is often higher and spreads wider than blue-chip stocks.
“The SmartPool value proposition is especially relevant for transactions in securities where liquidity is scarce and implicit execution costs tend to be higher,” said SmartPool CEO Lee Hodgkinson.
But thin trading volumes in many mid-cap stocks could be further diluted if liquidity is spread across too many venues, potentially increasing trading costs.
“Too much fragmentation will not help the mid-cap space,” Charles Taylor, partner, execution at agency brokerage Redburn Partners, told theTRADEnews.com. “The next move for dark pools appears to be aggregation, but some might not be willing to give up their business easily. Trying to guarantee best execution when the buyer of a stock is in one venue and the seller is in another might be something the regulators need to consider.”
Dark trading of mid-caps is already offered by fellow multilateral trading facilities Turquoise, Chi-Delta – the dark pool offering from Chi-X – and NYFIX Euro Millennium, the first independent dark pool to launch in Europe in spring 2008. Chi-Delta offers mid-cap trading in FTSE 250, Dutch AMX, French CAC Next 40, German MDAX and Swedish OMXS30 Next indices, while NYFIX offers mid-cap trading in these markets as well as Portuguese and Belgian mid-cap indices.
Providers of execution algorithms have recognised the potential fragmentation risks in the mid-cap market. Knight Capital, a US-based agency brokerage, plans to release its Oasis algorithm for mid- and small-cap stocks in Europe during Q4 2009.
According to Bradley Duke, managing director of institutional electronic sales, Europe, at Knight Capital, an increase in the number of sources of mid-cap liquidity can only improve the effectiveness of such tools.
“Our Oasis algorithm is designed to aggregate liquidity for small- and mid-cap stocks, so the more venues offering this type of liquidity the better,” said Duke. “We try to execute as much in the dark as possible as this provides the best possible results for our clients. This is especially true for mid- and small-cap stocks, as the risk of market impact and gaming is a lot higher when trading these on the lit markets.”
Unlike its some of its rivals, SmartPool has so far resisted linking up with other dark pools. Turquoise offers TQ Lens, a liquidity aggregation service that is connected to six broker crossing networks, while fellow MTF Nasdaq OMX Europe’s dark pool, NEURO Dark, launched onward routing to external dark pools last week.
“We want a diverse customer community, so in that context we are interested in linking dark pools,” said Hodgkinson. “However, I’m yet to be convinced of the aggregation model as the bulge-bracket banks have made a lot of investment in venue connectivity and routing capabilities.”