Reuters reports that bank-run dark pools are swelling in u.s. stock markets.
(emphasis mine) [my comment]
Bank-run dark pools swelling in U.S. stock markets
Wed Jun 3, 2009 10:13pm EDT
By Jonathan Spicer - Analysis
TORONTO (Reuters) - Big banks are executing an increasing percentage of U.S. stock trades within their own walls, capitalizing on the credit crisis and enticing the most active traders away from the traditional exchanges.
"Dark pools," where orders are anonymously matched so that traders do not alert the wider market to their intentions, have triggered concerns that stock pricing may not be transparent.
But the growth of those run by broker-dealers such as Goldman Sachs and Credit Suisse are squeezing other "dark" electronic trading venues, as well as exchanges, resulting in lower fees. [When everyone tries to be a crook, being a crook becomes less profitable]
The bank-run dark pools have only recently gained some traction in Europe, while other countries, such as Canada, are watching closely for signs of success or failure as U.S. equity markets fragment into some 40 venues. [Notice Canada NOT allowing dark pools.]
Although executives and market watchers expect to see new U.S. rules to ensure public and accurate pricing of stocks, they also expect the private pools to grow beyond the relatively small niche they now occupy.
"The dark pools are definitely going to grow; the wild card is any new regulation [dark pools unstated primary purpose is insider trading, and insider trading does not coexist well with regulation. In other words, if dark pools are effectively regulated, they will disappear.]," said Dmitri Galinov, director and head of liquidity strategy at Credit Suisse's advanced execution services, running the bank's CrossFinder dark pool.
Banks' internal dark pools have benefited from Regulation NMS, rules enacted in the last few years to help investors get the best price [the passage of Reg NMS extended the trade-through rule to all US exchanges that trade equities—including the NYSE (New York Stock Exchange), Nasdaq and AMEX (the American Stock Exchange). It was the most sweeping and controversial change to US markets in 30 years, and made manipulating all US exchanges far easier], and from the pricing of stocks in smaller increments, known as decimalization.
Dark pools owned by brokers and large market makers accounted for 70 percent of all dark U.S. equity volume in April, up from 64 percent in December and from 58 percent a year earlier [market manipulation is profitable], according to Rosenblatt Securities, a widely referenced agency broker that tracks 18 dark pools.
Overall, dark market share rose last year, but in the last eight months hit a ceiling near 9 percent of the U.S. market.
Dark pools, which usually publish trades to the consolidated tape with little detail well after they are executed, have been around for decades, but their brands have gained more exposure in the last few years. [growth in dark pools = growth in insider trading. It stands as testament to the corruption of US capital markets.]
Goldman's Sigma X was the largest in April, followed by market maker GETCO's Execution Services, and Credit Suisse's CrossFinder -- the winners benefiting from the collapse of other investment banks such as Lehman Brothers.
Justin Schack, vice president of market structure analysis at Rosenblatt, said broker-run dark pools had grown because they're faster, cheaper and open to algorithms -- the computerized trading programs that dominate the market, especially during volatile periods such as last year's crash.
"Market structure has changed over the last five or six years in ways that favor small size, rapid-fire trading," Schack said.
The most successful bank-run dark pools have steady participation from individuals, or retailers, whose standing trade orders are gobbled up by high-frequency players who use algorithms [algorithms = insider knowledge] and account for about 65 percent of the market.
PRESSURE ON EXCHANGES, REGULATORS
The U.S. market share of larger exchange operators NYSE Euronext and Nasdaq OMX, which run the New York Stock Exchange and Nasdaq Stock Market, respectively, has dropped in the last year as BATS Exchange, Direct Edge, and the dark pools gained ground.
While the competition has driven down trading fees, an internal pool also reduces the parent bank's exchange costs by integrating orders from customers and in-house trading desks.
"Brokers are doing a better job of harnessing all our order flow before it goes to the public exchanges," said Rishi Nangalia, managing director and global head of business development of Goldman's electronic trading. [which means their control and ability to manipulate the market has increased enormously. Nothing to worry about though, because the last two years have proven that brokers are nothing if not responsible (HEAVY sarcasm).]
But regulators, exchanges and others have raised concerns that dark pools do not publicize their quotes, that there is a general lack of comprehensive data on them [perfect for insider trading], and that some provide early messages, or "looks," to specific market players about upcoming orders [they do].
"I am concerned that (undisplayed quotes) may not promote public confidence in the equity markets [Thank you for stating the INCREDIBLY obvious]," James Brigagliano, co-acting director of the U.S. Securities and Exchange Commission's trading and markets division, told a major market structure conference in New York last month.
Most executives at bank-run dark pools told Reuters they would welcome new U.S. oversight [Agreed], but noted that competing trading venues help lower trading costs. Others see the growth in these dark pools as an experiment in progress.
"There would be instant vilification from the rest of the public" if a Canadian bank launched an internal dark pool, Doug Clark, managing director of quantitative execution services at Bank of Montreal's capital markets division, told Reuters on the sidelines of a trading conference here. "So I don't think they're going to do it." [BRAVO. Seems like the Canadian financial community is honest enough or smart enough to realize dark pools merit instant vilification.]
Last week, NYSE Euronext urged the SEC to examine the impact of the early looks at some U.S. venues [TRANSLATION: NYSE Euronext to SEC, "do your job"]. But without new regulation, bank-sponsored dark pools will continue to swell [TRANSLATION: As long as there is no penalty or risk for insider trading, more and more firms will engage in it], said Rosenblatt's Schack.
"Most brokers want to execute trades as quickly and cheaply as possible," he said. "I don't know that we've reached the limit because there are some firms with big equity businesses out there that still haven't maximized the potential to internalize orders in their dark pools." [I am really, DEEPLY disturbed every time I read such comments in the mainstream media. Here is an example to explain how bothered I am: Imagine if a company starts offering a riskless and anonymous way to kill other people, a means to murder with zero risk of getting caught. Now imagine someone else raving how wonderful this is and hoping that more firms start offering this option. What exactly am I supposed to make of that person? Does he lack any concept of ethics? Or is he a complete idiot?]
Zero Hedge reports that Wall Street's Secretive and Dangerous Dark Pools.
Friday, March 6, 2009
Wall Street's Secretive and Dangerous Dark Pools
Few things on Wall Street are as secretive and mysterious as "Dark Pools" - stock crossing networks that provide liquidity not displayed in market order books. The biggest implication of this is that an outsized bid can be matched up with an offer in a private transaction without disclosing the transaction at all. Traditional financial markets generate liquidity by openly advertising buy and sell interest in a given venue, with real time liquidity data provided by publishing market depth (think Level 2). Dark Pools, or Dark Liquidity, as they are sometimes known, have been used more and more by brokers and funds in transacting off market in increasingly greater volume.
Dark Pool background
Wikipedia does a good overview of some of the dark pool basics:
Some markets allow dark liquidity to be posted inside the existing limit order book alongside public liquidity, usually through the use of iceberg orders. Iceberg orders generally specify an additional display quantity, smaller than the overall order quantity. The order is queued along with other orders but only the display quantity is printed to the market depth. When the order reaches the front of its price queue, only the display quantity is filled before the order is automatically put at the back of the queue and must wait for its next chance to get a fill. Such orders will therefore get filled less quickly than the fully public equivalent, and they often carry an explicit cost penalty in the form of a larger execution cost charged by the market. Iceberg orders are not truly dark either, as the trade is usually visible after the fact in the
market's public trade feed.
Truly dark liquidity can be collected off-market in dark pools. Dark pools are generally very similar to standard markets with similar order types, pricing rules and prioritization rules. However the liquidity is deliberately not advertised - there is no market depth feed. Such markets have no need of an iceberg order type. In addition they prefer not to print the trades to any public data feed, or if legally required to do so, will do so with as large a delay as legally possible - all to reduce the market impact of any trade. Dark pools are often formed from brokers' order books and other off-market liquidity. When comparing pools careful checks should be made as to how liquidity numbers were calculated - some venues count both sides of the trade, or even count liquidity that was posted but not filled.
Whilst it is safe to say that trading on a dark venue will reduce market impact it must be noted that it is very unlikely to reduce it to zero. In particular the liquidity that crosses with you has to come from somewhere - and at least some of it is likely to come from the public market, as automated broker systems intercept market-bound orders and instead cross them with you. This disappearance of the opposite side liquidity as it trades with you and leaves the market will cause impact. In addition your order will slow down the market movement in the direction favourable to you and speed it up in the direction unfavourable to you. The market impact of your hidden liquidity is greatest when all of the public liquidity has a chance to cross
with you and least when you are only able to cross with other hidden liquidity that isn't also represented on the market. In other words you still have a trade-off: reduce your speed of execution by only crossing with dark liquidity or increase it and increase your market impact
Imputing the Existence of Dark Liquidity
There are a few ways to guess at the existence of dark liquidity. If you are watching the market depth and see that both the bid and offer have decreased by the same amount, you might reasonably assume that the trade was in fact made, but at a venue not visible to you. However this is unreliable, since there is the chance that two orders were simply canceled at the same time.
If you are actively trading at a dark venue and choose to take liquidity at a given price then you obviously have a piece of information known only to one other participant (the counterparty in the trade!). Additionally if you were completely filled you may reasonably assume that some more liquidity exists at the same price.
Dark pools are open to gaming, but it is a risky business, predicated on being able to guess both the existence of large liquidity and the pricing mechanism being used. As an example suppose that, by whatever means, you believe that there is a large amount of hidden liquidity, say a buyer pegged to the public bid price. If the public market has much less quantity than you suspect is hidden on the bid, you can buy a similar amount of the asset, pushing up the price. Once the price is high enough, you place a limit price buy order of sufficient quantity onto the public market and simultaneously place a limit price sell order for the total quantity you just bought on the dark venue. You now hope that the hidden order will cross with you at the current high price bringing the profit. This is a dangerous game though: how do you know that the pegged order is really in the dark pool, and how do you know what the volume is ? [if you are the one running the dark pool (ie: Goldman Sachs, etc), then you know.] Finally there is also the chance that another market participant will see the anomalous move, decide the market is mispriced, and take it back to the original price without you being able to liquidate your position at a favourable price.
A side effect of the bull market was that more and more broker dealers and independent firms ploughed their way into dark pool creation and management as there was a boom in stock volume over the past 5 years. Some of the most notable market participants are Instinet, ITG, Knight Capital, Liquidnet, NYFIX Millennium, and most of the bulge brackets. Lately, companies have jumped into fixed income dark pools as well, with TMC LLC being an early adopter of the idea of providing off-market corporate bond transactions, having over $1 billion in bond inventory.
We are very surprised that this market hasn't attracted much closer administrative scrutiny [not me. This is just one in a long list of insane/illigal activities which were never investigated: gold manipulation, massive off-balance sheet leverage, deliberate misrepresentation of risk virtually everywhere, etc]. In a testament to how well Wall Street guards one of its best secrets it is shocking that the Democratic congressman from Massachusetts hasn't swooped in on this like white on rice, even more so since it has the word "dark" in its title. ["the Democratic congressman from Massachusetts" has failed to "swooped" on any illegal activity (at least not before it explodes and horribly harms the average investor.]
A curious disclosure from Morgan Stanley pitching its second dark pool product MS Pool today highlights some of potential aberrations of order flow within dark pools:
[KEY POINT BELOW]
Unlike many other dark pools operating in the United States, MS POOL does not solicit order flow from external parties by leaking information regarding current client order flow. MS POOL also prevents the potential for gaming and manipulative trading behavior by not accepting immediate or cancel (IOC) orders. [RE-READ THIS QUOTE UNTIL YOU UNDERSTAND ITS SIGNIFICANCE.]
Highlighting the inherent flaws in the entire dark pool product is quite a novel way to differentiate yourself from the competition. Also, as the Wikipedia disclosure points out, substantial dark pool usage is a terrific way for parties who may have "semi-legal" information about a company (and have access to a dark pool) to transact in its stock without alerting regulators or the general public, as dumping 100 million shares ahead of a major M&A; transaction without alerting L2 at all is likely the most effective way to front run any material public disclosure.
We, of course, are not accusing anyone of abusing the system [I am. Given all the illegal/unethical activity we KNOW Wall Street has done, it is UNIMAGINABLE that dark pools haven't been massively abused.], just pointing out some of the structural variations in dark pool order flow versus regular markets. And as MS points out, it currently trades over 100 million shares per day in just one of its dark liquidity pools. Multiply this by the over 30 providers of such markets and you approach a number that could be more than half the total share volume trades on the NYSE! We hope MS is successful in signing up more clients for MS POOL ahead of what will likely be a substantial crack down on this market, which in this author's belief, is significantly more prone to abuse than the much maligned CDS OTC product. [both are nightmarish financial aberrations which should never have been allowed to exist.]
Money Matters reports about A New Danger: Dark Pool Trading Systems.
When I was a child, I wanted to know why civilizations died. I remember vividly, looking at pictures of ancient Crete. The happy, buxom ladies proudly displaying their breasts, the flowers, animals and mythological creatures interlaced with portraits of the sea, why did this disappear? One of the ways to trace what happens is to watch the Earth and money. When the concept of 'wealth' was created, it was connected with the wastes of the digestive system and death. There seems this powerful psychological connection that probably lies in our deepest past, our cannibalism.
That is why, when I found this article today detailing the latest schemes to hide, to bury, to conceal, to mislead, when dealing with the stock markets, I laughed. Yes, this is very purple and black and underground, Pluto's realm. Making money by moving or hiding money. Yes. Let's look at this latest and probably even more dangerous than the stupid hedge funds, trading organizations designed to trick outsiders and conceal hostile moves, the hidden knife, the assassins in the dark:
Here is Liquidnet's web page:
Why does a million-share order get whittled down to a 25,000 share execution?
Today's current market structure is a highly inefficient marketplace in which institutional supply and demand goes unrepresented. Concern over information dissemination, as well as lack of depth on the exchanges, means institutions reveal little about the size of their orders. When these orders are executed on the exchanges, institutional demand is paired against retail supply, which results in increasing market movement. Institutional size isn't readily found.
How does Liquidnet solve this inefficiency?
We created a global institutional trading marketplace in which buy-side firms trade size directly with size without any other market participants knowing - bypassing the exchanges completely. [Dark pools of liquidity are on the same level as deposit reclassification. Their creators are either crooks or naďve idiots who don't realize the damage they are doing.]
OK: who are these 'institutions' hiding from? Who is the entity they wish to elude, fool or trick? The premise of the stock exchange is, 'insider' trading is illegal. But more than that, people who know something is going to happen must get onto or off of that particular train and if the Federal government sees them jumping on or off, they might get charged with a crime! So having a system set up that quietly and secretively buys or sells in such a way, no one can be caught as a criminal, well. Um, where is the SEC?
Going after Martha Stewart?
Note that this guy is offering his services so people who are committing crimes can be anonymous. Namely, honest people don't have to hide. They are, like me, out in the open. Trust means operating where everyone can see what is going on. When people lurk in dark corners and do things while cloaking them, we should expect criminal things to happen. It is inevitable. [it is obvious too.]
Now, I know that Homeland Security (sic) is, like the Security and Exchange Commission, supposed to track dark activities and force them into the light of day so what the hell is going on here? Why are 'big traders' being allowed to operate in such a way that they can manipulate the markets like this? And of course, hedge funds are this sort of thing, too. Why are they allowed to operate as a cloaking device? [There are no "innocent" answers to these questions.]
Well, unravelling all this is tricky as hell. But the vortex is obvious: it is red ink fed through the USA and flows mostly from Asia to the USA and back again while various dark pools are used to suck up the wealth flowing out of the USA. For this is what it is all about: we are going ever deeper into debt. Even if we, individually, cease going into debt, our country is. There is a lot of red ink there and this year alone, there was $750 billion trade red ink and on top of this, $200+ billion of government red ink which means a trillion dollars of red ink flowed this last year and translating this into wealth for the rich is where these various hedge funds and dark pools are all about.
Note also that top 'daylight' organizations like the famous Goldman Sachs group are running these things, and our Treasury secretary is who? Ah, the President of...Goldman Sachs [Bush's treasury secretary, Henry Paulson, was a former CEO of Goldman Sachs]. So much for oversight. People wondered why he 'took a pay cut' to go take over the entire country's economic system! What a sacrifice.
My head hurts at such naivety. [A common reaction for me too over the last year and half.]
Liquidnet, a rapidly growing electronic stock-trading marketplace, is considering an initial public offering as early as next year, its chief executive, Seth Merrin, said on Monday.
"We are exploring the idea of potentially listing in 2008. No guarantees. For sure not in 2007, but a potential for 2008," Merrin told the Reuters Exchanges and Trading Summit in New York.
With the Boss in charge of the government agencies that oversees this garbage, it is no wonder they are all tempted, the hedge funds as well as the darkness guys, to 'go public' so they can tap into the stream of money that still lies in various pools around this nation. Then they can all pretend to get rich while doing absolutely nothing except moving up or down, various cyphers and numbers and cyphers and numbers are all magical, the basis of magic going back in time to the very invention of numbers and cyphers (writing) goes way back.
They imagine they can keep this all very mysterious so regular folk won't question what is going on. Is this 'money' being 'printed' or is it being created via using computers doing murky things that are not exactly legal? And do the numbers generated come from actual units of 'money' or is this why the graphs on every level are shooting up rapidly? After all, isn't money just numbers? And the government simply sets up numbers and tries to ignore reality but this causes 'inflation'. Or they could, like Japan, hide the inflation by feeding it directly into these 'dark pools'?
The people creating this wealth which is not mo ving down the scale to the bottom 50% of the people, can use the cyphers they attach to their own bank accounts to buy whatever they wish. And everyone is going crazy because computers make this so idiotically easy, no one has to worry their poor little brains tracking what is going on! Oh, joy.
From the Wall Street Journal:
Goldman Sachs Execution and Clearing, L.P. (GSEC) announced today that its SIGMA X crossing system achieved record volume, primarily driven by new functionality enabling clients to leave resting orders within SIGMA X. This record volume represents a 14% increase over February and provides more opportunity for Goldman Sachs' electronic trading clients to achieve price improvement, while minimizing the impact their trades have on the market.
Goldman Sachs clients can now anonymously leave or "rest" orders within SIGMA X, the firm's electronic trading crossing network. The new functionality allows clients to interact with GSEC streaming liquidity, external liquidity providers and block-level client orders. Clients can place resting orders through REDIPlus, the firms' execution management system (EMS), through their own Order Management System, or from another firm's EMS.
Hiding trading. Right. Argh. [I share the reaction] Anyone in the SEC should be out there with the handcuffs, seeing this. Because of course, if the 'big' trader is hiding his moves, this means he is most likely SELLING OFF to deluded people who think this is a good deal while he smirks, knowing it is a terrible deal. And if he is buying, he doesn't want to let the people selling know he wants their property really badly. This reminds me of some of the sneakier people I have known in my life.
From Instinet's wep page:
Instinet to Expand Block Trading Platform with Launch of Intra-Day Cross
NEW YORK--(BUSINESS WIRE)--June 8, 2004--Instinet, LLC todayannounced the expansion of its suite of electronic U.S. equity blocktrading services with the addition of the Intra-Day Cross (IDX).Scheduled to launch Wednesday, June 9, IDX was designed to counter the industry trend toward smaller execution size, and give institutionalinvestors the opportunity to anonymously and cost efficiently trade large blocks of U.S. stock, or illiquid U.S. securities, without human interventionand without an effect on price. IDX will join thecompany's other institutional block trading services: Volume-WeightedAverage Price (VWAP) Cross, Continuous Block Crossing (CBX(SM)),End-of-Day Cross (EDX), ProActive SmartRouter(SM) and sales tradingdesks in North America, Europe and Asia.
Here is some information about 'Night Hawk':
Nighthawk was designed to allow the trader to take advantage of all available liquidity in the U.S. marketplace, including dark pools and hidden order flow.
Nighthawk aggregates liquidity from multiple markets, including NYFIX Millennium, Liquidnet H2O, Credit Suisse's CrossFinderTM, Fidelity's CrossStreamSM, the ISE's MidPoint MatchTM and other ECN/ATS pools. It pings ECNs for discretionary liquidity and accesses Instinet's upstairs pools, including Instinet CBX® and Instinet Crossing®.
Nighthawk incorporates pricing behavior that helps to avoid paying the spread. Optional user settings control order visibility, pegging strategies and market allocation.
... When Apple or General Motors or any Japanese industrialist, if any of these people like Walmart are faced with the realities of what is going on in the lower depths of the Machine, they all profess to be shocked and dismayed [They all were shocked and dismayed. Their crime was willful ignorance].
Well, you can bet, that is all totally fake [disagree. Some of these people are honestly idiots who don't question what they should]. And just like all these people are hiding stuff or back dating paper work like Steve Jobs of Apple did, etc, they don't care [This is key. Most people on Wall Street aren't "in" on the manipulation of the market. However, they see evidence of it and don't do anything because they don't care]. They are out to make money and if this means changing dates on documents or using 'dark pools' to conceal trades that are basically insider trading, etc.
This is how they get filthy rich. There is a lot of blood on a lot of hands. But it is invisible for they dip their hands all the way up to the shoulders in the Dark Pools and this is just another name for the waters of the River Styx. [Perhaps a little excessive, but essentially right.]
My reaction: Dark pools make a mockery of capitalism.
1) The use of dark pools of liquidity and insider trading is growing.
2) To prevent insider trading and market manipulation, regulators look for patterns of unusual market activity. Dark pools are specifically designed to hide this unusual market activity.
3) It should be obvious to even a child that, if you allow stocks to trade anonymously, individuals with insider knowledge will anonymously/risklessly make billions of profit at the expense of the general public.
4) There is also BLATENT evidence that the market is being manipulated by some entity. We also know that there are these dark pools of liquity which provide the PERFECT vehicles for such manipulation and insider trading. It doesn't take a genius to put two and two together.
5) Don't even think of saying, "they couldn't possibly have..." Wall Street is a world where deposit reclassification is regarded as a universally accepted business practice, rather than a criminal perversion of regulatory system. Wall Street doesn't even know what 'ethics' means. I am being completely serious say this, "ANY activity is ok on Wall Street is ok as long as it exclusively, obviously, AND technically illegal." A single potential legitimate use becomes enough to justify the most unethical business practices. For example, since naked short selling could potentially help the market function more smoothly, Wall Street's maker makers should have the complete freedom to naked short sell anything they want without penalty (because we know Wall Street is trust worthy and incorruptible).
6) How can a single legitimate use be enough justify any business practice, despite their infinite potential for abuse? Answer: easily. Our government operates the same way. Have you hear this argument before? "since there might exist a single scenario which justifies torturing a criminal/terrorist, then the government should have complete authority to torture anyone they want without oversight. We should just trust the government (since we know the government is trust worthy and incorruptible)."
7) Blind trust = pure idiocy. Blind trust (and lack of oversight) will create criminal activity where it didn't exist before.
8) If you are a user of dark pools, you are either:
A) An insider taking advantage of suckers
B) The sucker
If you are an honest player, you should not be using dark pools which enable insider trading. Facilitating a crime (insider trading) is a crime in of itself, like being the getaway driv er in a bank heist (doesn't matter whether or not the driver is aware what he is doing).
If you are not an honest player, you also should not be using dark pools to trade. You should be in jail.
Conclusion: By allowing dark pools to exist, regulators have effectively legalized insider trading, much in the same way the Fed has removed reserve requirements by allowing deposit reclassification. Wall Street is either run by crooks or idiots (or a combination of the two).