SEC’s Schapiro Sets Sights on Dark Pools

Securities and Exchange Commission Chairman Mary Schapiro said yesterday that the Commission is weighing new reporting requirements for dark pools, and is examining their potential impact on the markets.

The regulator’s preeminent concern is transparency. Schapiro observed that the "lack of post-trade transparency by dark pools makes it difficult…[for investors] to assess dark-pool trading and to identify the dark pools most active in particular stocks." She spoke yesterday evening at a dinner sponsored by the New York Financial Writers Association in New York.

Schapiro also took aim at electronic indications of interest that some dark pools send one another to seek liquidity residing in other non-displayed alternative trading systems. She noted that "pre-trade messages [are used] to indicate the availability of liquidity." However, she said, while dark pools reach out to one another for liquidity, "dark pools currently do not submit quotes to the public quote stream."

James Brigagliano, co-acting director of the SEC’s Division of Trading and Markets, called these indications "actionable order messages" in a speech several weeks ago. He described these private messages as "functionally and economically similar to public quotes." If these messages enable many small dark pools to survive by interacting with liquidity in other dark pools, he said, "market fragmentation could worsen."

Referring to these indications of liquidity, Schapiro raised another concern: that dark pools "transmit them to networks of selected market participants." The result, she said, is that "significant private markets could develop that exclude public investors," and that could lead to a trading environment "to which the public does not have fair access."

The SEC is also concerned about how dark pools affect the price-discovery function, according to Schapiro. If they divert valuable flow away from the displayed markets, she said, they could "threaten the very price-discovery function on which their existence depends."