Wednesday, September 23, 2009

Regulating the Dark Pool Palooza

The World Federation of exchanges has taken aim against dark pools, echoing the SEC's concern that they limit transparency. Yes and no. If an institutional buyer cannot execute large trades (which means hundreds of thousands of shares) on the quiet, then market volatility will soar. Transparency is only a good thing in that we know what has happened and when - which we do with dark pools because they have to report trades just like any other venue. Crossing internal and customer business - which is where dark pools started at the banks - is essential in order to save investors money on exchange fees. While it is probably true that there are too many dark pools - around 40 in the US alone at last count - I believe they are a necessary evil. Perhaps what is needed, ironically, is more transparency in dark pools. If more of them were integrated, or if regulators mandated that orders had to go to ALL pools rather than just one or two, then this might help to light them up a bit. Pool providers should be doing more to make their business more understandable to the regulators and the general public. Given the panic over flash orders and HFT, dark pools should be afraid. Very afraid.

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