Exchanges body issues 'dark pools' warning
By Jeremy Grant in London
Published: September 23 2009 03:00
The world's stock and derivatives exchanges warned the Group of 20 leaders yesterday that the continued "proper functioning" of their markets could not be taken for granted because of a proliferation of alternative trading venues such as "dark pools".
The World Federation of Exchanges said the growth of "certain trading venues" in recent years had created an uneven playing field between fully regulated exchanges and "alternative order execution platforms".
It said the "heightened opacity" of these platforms "inhibits price discovery [the setting of prices through market forces] and may lead to negative outcomes, including increased market volatility".
The warning came in a letter to Mario Draghi, chairman of the Financial Stability Board at the Swiss-based Bank for International Settlements.
The WFE's move is a sign of an increasingly vigorous lobbying effort by exchanges to persuade policy-makers of the benefits of channelling trading of stocks, bonds and derivatives through regulated exchanges.
It comes as many parts of the off-exchange, or over-the-counter, markets have been discredited by the financial crisis.
Certain OTC, or privately negotiated, credit derivatives were blamed for exacerbating the crisis. Policymakers are pushing regulatory reforms aimed at moving large parts of the OTC markets on to exchanges and clearing houses, to increase price transparency.
However, the WFE's move is likely to anger many of the large banks that operate their own off-exchange share trading venues, including dark pools. Such platforms have grown rapidly in the past year as traders seek to execute large blocks of trades but have attracted regulatory scrutiny, as prices are not displayed until trades have been completed.
The banks argue that they perform a legitimate function at a time when large orders are ever harder to execute on exchanges as electronic trading slices orders into smaller and smaller sizes. They argue that the exchanges are attempting to exploit the current heightened regulatory concerns over market transparency to win more business.
William Brodsky, WFE chairman and chief executive of the Chicago Board Options Exchange, wrote: "There are two interconnected concerns of exchanges which merit the attention of G20 leaders. First is the absence of a level playing field between exchanges and other entities performing some of the same or similar functions.
"Second is an erosion of price discovery arising from recent trends. These phenomena may be compromising the role of the public, regulated marketplace, and hampering exchanges' ability to fulfil their macro-economic role."
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