Dark pools are on a hot streak. They’re tearing through volume records and turning into big-league market centers in their own right.
Goldman Sach’s Sigma X dark pool yesterday executed 406 million shares, making it the seventh-largest market center for U.S. equities. That put Sigma X in line behind Nasdaq, NYSE Arca, the New York Stock Exchange, BATS Trading, Direct Edge ECN and the National Stock Exchange. And ahead of all other venues.
Sigma X’s volume is up 100 percent over the last seven weeks, according to Rishi Nangalia, head of product development at Goldman Sachs Electronic Trading. “It’s a virtuous circle,” he said. “We have more volume passing through from more clients and their algos, and as a result of higher fill rates, we get more flow, which in turn further increases the match rates.” This surge is taking place against a backdrop of higher equity market volume overall and greater volatility.
Goldman isn’t the only broker dark pool breaking records. Credit Suisse on Wednesday logged an all-time high of 210 million shares in CrossFinder, its dark-liquidity pool. Executed volume in the pool grew an average of 30 percent per month this year, according to the broker. Earlier this month, Lehman Brothers executed over 100 million shares in its dark pool for the first time.
Dan Mathisson, head of Credit Suisse’s Advanced Execution Services group, noted that his firm and Goldman have “separated from the pack” of several dozen dark pools. “We’re hitting that fun part of a crossing platform, the liquidity-begets-liquidity phase,” he said.
One reason for the jump, according to Mathisson, is the “network effect” of institutions increasingly accessing dark liquidity through algorithms. Smart-order routing and heat-map-type technology that route orders to “hot” destinations providing fills “lead to a disproportionate increase in the market share of the bigger pools,” he said. “Flow is migrating off traditional destinations to destinations that barely existed a couple of years ago.”
The National Stock Exchange, the venue just ahead of Goldman’s Sigma X, yesterday transacted 217 million shares, making it a distant sixth to its bigger brethren. Displayed markets, including exchanges and electronic communication systems, single-count their executed volume. Dark pools double-count what they cross. The industry’s (single-counted) consolidated volume reached 12.3 billion shares yesterday.
Even if Goldman’s volume yesterday was an outlier, Sigma X is on a tear. So far this month, the dark pool has executed an average daily volume of 310 million shares (double-counted). In June, the pool’s daily average was 233 million, up from 151 million in May. In comparison, in June 2007, Sigma X executed 84 million shares per day.
Consolidated market volume, according to Nangalia, has increased about 25 percent over the last two months. According to Lehman Brothers equity research, overall average daily market volume this year through mid-July, at 7.8 billion shares, represents a 27 percent increase over the same-period average daily volume in 2007.
So far this month, Credit Suisse, the #2 dark pool, has executed a daily average of close to 180 million shares. Its June average daily volume was 148 million, compared with 130 million in May. Mathisson noted that a big contributor to CrossFinder’s volume boost is the CrossFinder Retail Network of brokers. “It’s a significant part of our growth,” Mathisson said. “It’s typically relatively uninformed market orders, which is the highest-quality flow you can get. That attracts institutions.”
Goldman, Credit Suisse and a couple of other brokers have seen their volumes race past Liquidnet’s. The longtime crossing stalwart executed 67 million shares in June, down slightly from 68 million shares in May. However, unlike these broker internalization pools, Liquidet and competitors Pipeline and ITG’s BLOCKalert–and, to a lesser extent, ITG’s POSIT–are block pools that attract institutional flow before it gets broken up and sent into the market in pieces.
According to Goldman’s Nangalia, some of Sigma X’s volume spike is the result of the market’s higher volumes. However, he added, Goldman has also optimized various algos to seek executions in dark pools, inked a dark-pool deal with Morgan Stanley and UBS that allows each firm to access the others’ pools, and recently began reaping the benefit of new order flow submitted directly into Sigma X by several institutions.
Goldman’s increased volume overlaps the period of its dark-pool linkages with Morgan Stanley and UBS. Flow from those relationships is “an important fraction” of Sigma X’s volume, Nangalia observed, but remains less than 10 percent of the total volume. He added that Goldman’s own Port-X algo for list trading has increased its market share of Sigma X’s executed volume.
Dave Johnsen, vice president for Sigma X business development, pointed out that Sigma X’s volume growth has become more stable as a result of diverse flow. “We know, for example, that if we trade 300 million on one day, we’re not going to be at risk of trading 200 million the next,” he said. “Having portfolio-based customers and stable liquidity there every day is a benefit.”
Dark pools are also not the only beneficiaries of growing interest in non-displayed liquidity. Yesterday was the fourth day Direct Edge ECN handled over one billion shares. The first time was last Friday. One reason for this, according to CEO William O’Brien, is that the ECN has taken an aggressive role in “facilitating dark-pool access.”
According to O’Brien, Direct Edge routed out 120 million shares on Tuesday to dark pools, and expects to average 100 million shares this month. That figure was 30 million shares per day in January. “Dark-pool operators and investors at trading firms are seeing more value in dark-pool aggregation products like our Enhanced Liquidity Provider program,” he said. “Subscribers don’t have to manage connectivity to 17 pools. We give them the ability to interact with dark pools and the displayed markets simultaneously, and we give dark pools the opportunity to interact with a lot of order flow.”
Aggregated access to those pools drew more volume to Direct Edge, O’Brien said. The ECN’s matched market share this week has edged up toward 5 percent, from 4.3 percent in June, according to the exec, while its touched share, which includes flow routed out to market centers and dark pools, is currently close to 10 percent of the consolidated volume.
Credit Suisse’s Mathisson noted that dark-pool volume shows no sign of abating, and that when CrossFinder sees its volume spike, “we haven’t given it back.” He added that broker-owned alternative trading systems probably represent around 900 million shares per day right now. “That’s a huge number,” he said. “It’s a huge movement [toward dark pools].”