What the SEC Found Inside ITG’s Secret Trading Desk

Code-named "Project Omega," the broker-dealer ran an elaborate operation to dupe its dark pool subscribers.

Visit the ITG web site and alongside the announcement that the broker-dealer is settling with the US Securities and Exchange Commission is a black box of text. It reads, “How transparent is ITG? See for yourself.”

The text continues, “[a]s an independent agency broker with a 28-year history of delivering the best possible execution, we believe in sharing detailed transactional data with our clients while delivering high quality liquidity. As a result our clients trade smarter and improve performance.”

Not all clients. Instead, the broker-dealer and its affiliate AlterNet Securities admitted to running an operation to dupe its own dark pool clients. Code-named “Project Omega,” the SEC found that ITG traded an estimated 1.3 billion shares, “including approximately 262 million shares with unsuspecting subscribers in ITGs own dark pool.”

Here are some of the SEC’s findings into ITG’s Project Omega:

– Project Omega employed an algorithmic trading strategy called the Facilitation Strategy in which it executed trades based on a live feed of information concerning orders that its sell-side subscribers sent to ITGs algorithms for handling.

– Project Omega accessed the feed by connecting to a software utility that was used by ITGs sales and support teams.As a result, Project Omega had a real-time view of subscriber orders being placed through ITGs algorithms.

– From April to December 2010, the Facilitation Strategy was designed to detect open orders of sell-side subscribers being handled by ITG.Based on that information, Project Omega opened positions in displayed markets on the same side of the market as the detected orders, and then closed these positions in POSIT by trading against the detected orders.By employing this strategy, Project Omega sought to capture the full bid-ask spread between the National Best Bid and Offer (NBBO).

– Project Omega had access to the identities of POSIT subscribers and used this information to identify sellside subscribers and trade with them in the dark pool in connection with the Facilitation Strategy.

– To earn the full bid-ask spread in connection with the Facilitation Strategy, Project Omega needed the subscribers with which it traded in POSIT to be configured to trade aggressively so that the subscribers would cross the spread to trade with Project Omega.Project Omega took steps to ensure that the sell-side subscribers were configured to trade aggressively in POSIT.

– Project Omegas other primary strategy called the Heatmap Strategy involved trading on markets other than POSIT based on a live feed of confidential information relating to customer executions in other dark pools.Based on customer executions, Project Omegas Heatmap algorithm was designed to open positions in specific securities in displayed markets at the bid or the offer and then close them at midpoint or better in the external dark pools where customers had received midpoint executions.The goal of this strategy was to earn a half spread or better based on knowledge of ITG customers executions.

The SEC’s Charges

The SEC found that ITG violated Sections 17(a)(2) and (3) of the Securities Act of 1933 in connection with Project Omega by engaging in a course of business that operated as a fraud and by failing to make disclosures about Project Omega and its proprietary trading activities.The broker-dealer also violated Rules 301(b)(2) and 301(b)(10) of Regulation ATS by failing to amend its Form ATS filings in light of Project Omegas trading activities in POSIT, failing to establish adequate safeguards, and failing to implement adequate oversight procedures to protect the confidential trading information of POSIT subscribers.

The SECs investigation is not over. According to the regulator, it is being conducted by Paul T. Chryssikos, Scott A. Thompson, Matthew Koop, and Mandy B. Sturmfelz of the SEC Enforcement Divisions Market Abuse Unit with assistance from G. Jeffrey Boujoukos of the Philadelphia Regional Office.

The case is being supervised by Joseph G. Sansone, acting co-chief of the unit. Substantial assistance was provided by Michael J. Gaw and Tyler Raimo of the Division of Trading and Markets.