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Wednesday, April 9, 2014

Are "Dark Pool" Probes Pending?

Banks' so-called "dark pool" trading venues are all the rage these days.

The media jumped when dark pools were cited in federal authorities' and investor class action complaints against SAC Capital and its executives. The focus was on how the anonymity associated with dark pools, and the levels of secrecy they provide, allowed SAC and/or its members to avoid detection and potential losses on its sale of stock. (See also Gazing into 'dark pools,' the tool that enables anonymous insider trading)

One quote from a complaint reads:
“We executed a sale of over 10.5 million ELN for [various portfolios at CR Intrinsic and SAC LP] at an avg price of 34.21. This was executed quietly and efficiently over a 4 day period through algos and darkpools and booked into two firm accounts that have very limited viewing access.”
Next Goldies brought its dark pool, Sigma X, to the fore.  Having discovered pricing errors within the opaque pool, Goldman reportedly decided to send refund checks to customers to compensate them for the mistakes.

Michael Lewis didn't make matters any easier for Goldman or dark pools, giving them a hard time in his new book, Flash Boys.  Among other things, he casts doubt on whether investors got "best execution" through the dark pools:
“A broker was expected to find the best possible price in the market for his customer. The Goldman Sachs dark pool—to take one example—was less than 2 percent of the entire market. So why did nearly 50 percent of the customer orders routed into Goldman’s dark pool end up being executed inside that pool—rather than out in the wider market.”
That quote, alone, might not be altogether convincing: it's not clear whether he's looking at scenarios in which Goldman's clients have requested execution through the Sigma X, or whether Goldman's clients, requesting best execution, were oddly quite regularly executed through Sigma X, despite the potential for sub-optimal execution through that platform.  It's probably fair to say that those requesting execution through the dark pool would agree that they were foregoing "best execution" in the market - which is something one typically foregoes even with "hidden" orders submitted to an (open) exchange.

But now Goldies is back in the spotlight.  According to today's WSJ, they're considering shutting down their dark pool.

But why?

According to the Journal article, Goldman executives are weighing the benefits of the revenues it produces, against the burdens dealing with trading glitches and negative press.  Some burdens those must be, given Sigma X is purportedly one of the largest bank dark pools, and is likely producing significant flow.

Perhaps there's another theory...

Consider these stories:

In January 2014 Barclays decided to shut down its retail / margin Foreign Exchange business, Barclays Margin FX; in February, NY regulator Lawsky opened a currency markets probe.

In January 2014 Deutsche Bank AG (DBK) announced that it will withdraw from participating in setting gold and silver benchmarks in London;  in March, the CFTC announced that it is looking at issues including whether the setting of prices for gold—and the smaller silver market—is transparent. 

In July 2013, the CFTC put metals warehouses on notice of a possible probe. By November 2013 Goldman was resuming talks to sell its metals warehouses and seeking a buyer for its uranium trading unit; and by March 2014 we had various notices of JP Morgan's intent to sell its physical commodities divisions.

Probe and Sale

We could go on and on, but ultimately these are all anecdotal and we aren't wanting or looking to prove statistical significance at this stage.  We're also not too concerned about what comes first: the probe or the sale.  There's certainly no one-to-one mapping.  Not every regulatory probe is followed by a sale, or vice-versa.  We're only wondering if there's a pattern. And if there's a pattern, could there be an explanation as to why there's a pattern?

Here's one theory.  (We welcome yours.)  Might it be that, pending a likely or imminent (and embarrassing or expensive) enforcement action, banks may take preemptive action in selling "problematic" divisions ... to enable the negotiation of a more lenient settlement as they're (now) less likely to be repeat offenders of whatever activity was the subject of the probe?

In other words, is a dark pool probe pending?

1 comment:

Anonymous said...

All you need to do is look at the client agreement signed with these IBs, they will deal with you as agent or AS PRINCIPAL, of course clients are getting bites taken out of them.