If there was one result from the "flash crash" that sent the
world's financial markets into a screaming tizzy, it was renewed
focus on electronic trading systems, ETSs for short, and their
perceived negative impact on trading activity, liquidity and
transparency and broader financial market stability.
The connotation that the world's biggest stock exchange could
somehow implode with the press of an execute button prompted us to
take a second closer look at an April report from New York-based
)) focused on dark pools in Europe.
To be clear, a dark pool isn't just a hole in the ground with a
lot of water. A
in trading and execution terms is a type of ATS (Alternative
Trading System) that does not display quotations to the public - in
other words, the bid and ask price are kept in the dark. They have
grown in popularity over the past few years, particularly for
alternative investment managers looking to shop around and get a
one up on price - and the competition.
Being awhile since taking a gander into the dark pool, so to
speak, we decided to whet our appetite and take the plunge in
analyzing ITG's report, called "
Alternative Trading Systems in Europe - Trading Performance by
European Venues Post-MiFID
," (the full report can be requested by
) which was pulled together from a sampling of trading activity in
Europe spanning primary exchanges, dark pools and displayed
alternative venues over the first three quarters of 2009.
Of particular note was that, despite broader concerns about
electronic trading and fears that a single click can bring down
global financial markets, trading in ATSs, dark pools in
particular, continues to grow in popularity and has actually helped
foster greater liquidity, more diversity and, perhaps surprisingly,
more cost-effective ways for hedge funds and others to trade
Indeed, according to the report, which was compiled from data
culled by research consultancies Tabb Group and Aite Group, as much
as 22% of total European equity volume is now executed through
ATSs, most of which are registered as multilateral trading
facilities. The sampling analyzed some 5.6 million trades in Europe
over the nine-month period (see chart below for a value-traded
breakdown of primary exchanges, MTFs and Dark Venues).
Not only have ATSs lowered the played field and contributed
positively to overall liquidity, they have also made it cheaper for
hedge funds and other traders to buy and sell stocks - 71% cheaper
than incumbent domestic exchanges and 43% cheaper than multilateral
trading facilities (MTFs), according to ITG. Cost savings are even
more pronounced when trading small-cap and mid-cap stocks.
What's more the risk of slippage - the difference between
estimated transaction costs and the costs actually paid - is far
greater in primary markets than in dark pools. The report also
found that greater participation in dark venues versus "lit"
markets resulted in higher basis-point cost savings. (see chart
below from the report illustrating distribution of performance by
In particular, the trend was most evident for orders that
accounted for between 25-50% average daily volume ((
)), where dark pools were found to offer over 60 bps "in added
value", compared to under 10 bps for orders between 1-5% ADV.
The report cautions against increased regulatory oversight for
dark pools, noting that shedding light on dark pool transactions
could decrease interest in utilizing them, hence stifling best
execution and other positives.
We at AllAboutAlpha.com are more than willing to bet a candle or
a flashlight that more calls for
of various trading markets and systems have come into play since
the flash crash occurred, including from the US Securities and
While not ones to ever advocate being in the dark about
anything, there are certainly benefits that ATSs bring to the
table. One can hope the US sees the virtues that MiFID has brought
to the Europe trading scene, and not let a momentary "flash"
blindly obscure the continued growth of electronic trading and
diversity in America.
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