"Dark pools," where orders are anonymously matched so that traders do not alert the wider market to their intentions, have triggered concerns that stock pricing may not be transparent.
But the growth of those run by broker-dealers such as Goldman Sachs and Credit Suisse are squeezing other "dark" electronic trading venues, as well as exchanges, resulting in lower fees.
"The dark pools are definitely going to grow; the wild card is any new regulation," said Dmitri Galinov, director and head of liquidity strategy at Credit Suisse's advanced execution services, running the bank's CrossFinder dark pool.
Overall, dark market share rose last year, but in the last eight months hit a ceiling near 9 percent of the U.S. market.
And while dark pools controlled by independent private ventures such as ITG would be a perfectly normal response to market demand for liquidity facilitation, it is surprising to discover that a vast majority of the pools are in fact controlled by the very same recipients of TARP funding (who are now doing all they can to issue stock so they can repay their TARP bonus burden).
As frequent Zero Hedge readers know, when it comes to program trading on a traditional exchange such the NYSE, Goldman Sachs is by far the most dominant force. It is by Goldman's own admission that the primary reason for this monopoly is to facilitate high-frequency trading in the open market. It would only be fitting that Goldman would be the dominant market player in the dark pool high-frequency market as well. And, as it turns out, it is.
Dark pools owned by brokers and large market makers accounted for 70 percent of all dark U.S. equity volume in April, up from 64 percent in December and from 58 percent a year earlier, according to Rosenblatt Securities, a widely referenced agency broker that tracks 18 dark pools.
Dark pools, which usually publish trades to the consolidated tape with little detail well after they are executed, have been around for decades, but their brands have gained more exposure in the last few years.
Why is Goldman Sachs so obsessed with high frequency trading, be it in the open market or in dark pools? Would it have something to do with traditional liquidity providers getting cremated in the current market as a function of usual mean reversion factors getting obliterated.
Goldman's Sigma X was the largest in April, followed by market maker GETCO's Execution Services, and Credit Suisse's CrossFinder -- the winners benefiting from the collapse of other investment banks such as Lehman Brothers.
Justin Schack, vice president of market structure analysis at Rosenblatt, said broker-run dark pools had grown because they're faster, cheaper and open to algorithms -- the computerized trading programs that dominate the market, especially during volatile periods such as last year's crash.
"Market structure has changed over the last five or six years in ways that favor small size, rapid-fire trading," Schack said. [SPY IOI anyone?]
The most successful bank-run dark pools have steady participation from individuals, or retailers, whose standing trade orders are gobbled up by high-frequency players who use algorithms and account for about 65 percent of the market.
As was previously noted, the ample room for manipulating this shadow market has been the reason why none other than the SEC has started taking a much more cautious look at what goes on under the surface.
[R]egulators, exchanges and others have raised concerns that dark pools do not publicize their quotes, that there is a general lack of comprehensive data on them, and that some provide early messages, or "looks," to specific market players about upcoming orders.Most amusing is the response by Bank of Monetreal's Doug Clark, managing director of quantitative execution services, on whether Canadian banks could launch dark pools: "There would be instant vilification from the rest of the public. So I don't think they're going to do it." So apparently even the "backward national park" to the north is sufficiently advanced to know not to dabble in a form of exchange which is essentially a platform for shady dealing to occur under the public's radar.
"I am concerned that (undisplayed quotes) may not promote public confidence in the equity markets," James Brigagliano, co-acting director of the U.S. Securities and Exchange Commission's trading and markets division, told a major market structure conference in New York last month.
And yet, here in America, the investing public not only does not care about these underground exchanges but also welcomes them happily, because they "lower trading fees." But all is well - let's just leave all the dark pool regulation to the SEC. They have proven beyond a reasonable doubt that when it comes to issues such as market manipulation, be it by individuals or semi-nationalized corporations, they are a phenomenal first line of response. And in the meantime the general public will happily keep on buying stocks, unaware of what is really happening on the margin.
For those interested in more data on dark pools, attached is a dated piece by Rosenblatt Securities discussing some of the major aspects of this market, and also validating Goldman's Sigma X market dominance in significant detail.
Also, a good representation of how certain funds take advantage of micro block trading (which may or may not have been done on a dark pool), I refer readers to the following 13-G filed recently by Millennium Partner in Composite Technology Corp: amusingly Izzy Englander's firm discloses the stock offloading pattern in the Schedule A in vivid detail. It is a stunner.
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