Reg ATS 5% Threshold Could Get Lowered
Traders Magazine Online News, August 14, 2009
The Securities and Exchange Commission is considering a significant change related to Regulation ATS that could ultimately shrink dark pool volumes.
Specifically, the SEC is considering whether to lower the 5 percent threshold at which alternative trading systems must display quotes publicly and provide "fair access" to their markets, according to a number of market participants. This, coupled with firming up the industry's understanding of certain types of automated messages designed to seek liquidity, could reduce dark pool market share.
The SEC is reviewing the idea of decreasing the market share threshold that triggers display and fair access requirements to 1 to 2 percent, from 5 percent, industry sources told Traders Magazine. Some industry executives familiar with the SEC's discussions expect the threshold level to be cut to 2.5 percent. Any change to this requirement in Regulation ATS would involve rule-making subject to a public comment period. That rule-making could occur as early as this fall. The SEC declined to comment.
Jamie Selway, managing director of institutional broker White Cap Trading, said he expects the SEC to seriously consider pushing the threshold down to 1 percent. He thinks the SEC is leaning toward lowering the standard, but believes there will be industry pushback. He doesn't have a strong view on what the SEC will do, he said.
Dan Mathisson, head of Advanced Execution Services group at Credit Suisse, said his firm has had discussions with the SEC about the display and fair access requirements in Reg ATS. "Lowering the threshold appears to be on the table," he said. "We're thrilled the SEC is reviewing this issue. We're hopeful they're going to make a change."
"This would be a radical change," Selway said. "If you're a dark pool of reasonable size and you're exchanging order information through what are essentially limited private networks, you'd incur quote obligations. That would probably kill the practice of routing out order-ish messages." He added that dark pools would have a harder time going "semi-light" to pursue more executions.
Many dark pools currently send out automated messages based on orders to other pools or venues to find contra-side liquidity. If dark pools don't send out those messages or electronic "indications of interest" to seek liquidity elsewhere, they may have a harder time growing their volume.
Currently, if a dark pool trades 5 percent of the average daily volume in a stock in four out of the last six months on a rolling basis, it must publicly display its quotes and provide "fair access" to its liquidity pool. Dark pools typically attract flow from customers who do not want to display their orders in the markets because of market-impact concerns. If a pool is required to display quotes, the incentive to use that pool is likely to decrease for many customers. Providing that information publicly could increase the prospect of information leakage on orders sent into the pool.
Dark pools can avoid quote obligations once they hit the quoting threshold if they send participants non-firm "indications" (rather than orders) that are intended to produce a negotiation. They can also send quotes to just one participant or customer at a time. Alternately, a pool could stop trading a particular name before reaching the threshold to avoid triggering the quote obligation. Orders sitting in dark pools waiting passively for a match do not have to be displayed.
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