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06:43 AM
Joe Saluzzi
Joe Saluzzi
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FINRA's Dark Pool Proposal Needs A Brighter Light

The proposal on dark pools from FINRA doesn't go far enough and leaves a lot of information in the shadows.

Four years after the SEC first proposed (PDF) rules (that have still not been approved) to deal with dark pools, FINRA has now proposed (PDF) some rules of their own. FINRA is looking to add some transparency to the murky world of dark pools by proposing that alternative trading systems (ATS) start reporting some statistics.

Specifically, FINRA proposed:

"Rule 4552 to require each alternative trading system ("ATS") to report to FINRA weekly volume information and number of trades regarding securities transactions within the ATS; and (ii) amend FINRA Rules 6160, 6170, 6480, and 6720 to require each ATS to acquire and use a single, unique market participant identifier ("MPID") when reporting information to FINRA."

They stated in their filing:

"FINRA believes that the weekly volume statistics reported by each ATS will significantly enhance FINRA's ability to surveil for compliance with the requirements of Regulation ATS, and publicly disseminating the ATS trading data for equity securities will provide enhanced transparency and understanding into trading activity by ATSs in the over-the-counter market. FINRA believes that requiring each ATS to use a single, unique MPID for reporting information to FINRA will significantly enhance FINRA's ability to surveil for compliance with the requirements of Regulation ATS as well as other SEC rules, the federal securities laws, and FINRA rules."

While it's encouraging that FINRA has finally decided to require some more disclosure on dark pool trades, as usual its necessary to go beyond the headlines and look at some of the details of the proposal:

1) Non-ATS broker dealers will not have to report:

"Some firms consulted said that the information reporting requirements could place ATSs at a competitive disadvantage to broker crossing systems that are not registered as ATSs."

While off-exchange trading is currently running about 40% of overall volume, this 40% does not come exclusively from dark pools. A good percentage of it comes from internalizing brokers that are not ATS's. These internalizers will not have to report their volumes to FINRA under this new proposal.

2) FINRA will be charging a fee to access the dark pool figures:

"FINRA intends to establish a fee to recover costs that may be incurred in providing the information to professional users of the data; however, nonprofessional users could receive the data free of charge. FINRA anticipates establishing a flat, monthly subscription fee (with a yearly commitment term) for professional subscribers to access the published reports on an enterprise license basis. The entity would not be permitted to redistribute this information outside of the enterprise. In addition, FINRA is considering offering a monthly vendor enterprise license (with a yearly commitment term) to permit the redistribution of the reports."

We realize that FINRA is a non-profit organization that has expenses to cover but we hope that this doesn't turn into a revenue boom like the CTA and UTP plans have become for the exchanges.

3) Two week delay before publishing the reported data:

"FINRA discussed the proposed rule change with several of its industry committees and a number of ATS operators. The consulted firms generally supported the proposed reporting requirements and publication of the transaction information. As noted above, following discussions with firms, FINRA is proposing a two-week delay before publishing the reported data on Tier 1 NMS stocks on FINRA's web site and a four-week delay for all other NMS stocks and OTC Equity Securities."

In our opinion, FINRA's dark pool proposal barely scratches the surface of what is needed. Two week old data comprised of only a subset of off exchange trades that you need to pay for is not exactly shining a bright light on dark pools.

We would have liked to have seen FINRA ask for more disclosure on:

  • indications of interests
  • routing of orders
  • fees/rebates charged by dark pools

We also think that real time disclosure of dark pool trades should have been proposed. You may recall that the SEC proposed this back in 2009 but was then inundated with over 150 comment letters from the industry urging them not to go forward on this.

Unfortunately, we were not one of the firms that FINRA consulted with prior to issuing their dark pool proposals so our suggestions never made it into their proposal. We will, however, be commenting on the proposal and we urge all investors to do likewise.

Joseph Saluzzi is partner, co-founder and co-head of equity trading of Themis Trading LLC, a leading independent agency brokerage firm that trades equities for institutional money managers and hedge funds. He is also the co-author of Broken Markets -- How High Frequency ... View Full Bio
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