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01:54 PM
Daniel Safarik
Daniel Safarik
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The SEC May Start Monitoring Non-Transparent and Restricted-Access Trading Alternatives, or Dark Books, More Closely in the Future

The SEC is concerned about the effect the proliferation of dark books will have on public markets.

The Island ECN acted similarly in 2002 when it faced the obligation to display its exchange-traded funds (ETFs) in the Intermarket Trading System, where floor-based traders could "trade through" its prices. Rather than do this, Island went completely dark. Its market share declined by more than half in some securities, but it remained a highly successful ECN until it was acquired by Instinet and, later, Nasdaq. SEC officials declined further comment on the issue. Liquidnet executives could not be reached for comment.

Some dark operators say they would welcome a lowering of the threshold or more-strict oversight, believing that it would increase institutional traders' confidence in anonymous markets and increase trust that brokers are not making proprietary trades against their customers. "Regulators are clearly taking an interest in understanding how dark books work," says Jose Marques, a director at Credit Suisse, which is a sponsor of the crossing network LeveL, along with Citigroup, Fidelity Brokerage Co., Lehman Brothers and Merrill Lynch. "That is an entirely healthy and appropriate thing for them to be doing," Marques adds. "We view the possibility of the SEC looking into dark books and lowering the fair-access threshold as being positive."

Closing the Books?

Market observers say the future will support fewer dark books -- but not because of regulatory intervention. Rather, market forces likely will prompt consolidation, just as it did with the earlier generation of ECNs.

"It is silly to have 40 different pools that have the same structure and value proposition," says TABB Group's Johnson. The arrival of BIDS (Block Interest Discovery Service) and LeveL in the past six months, both of which link multiple dark and crossing services, "offers a viable alternative to venues acquiring each other or the removal of players in the market," he points out, noting that on March 1 six more firms invested in BIDS: Bank of America, Bear Stearns, Credit Suisse, Deutsche Bank, JPMorgan and Knight Capital Group, joining original founders Citi, Goldman Sachs, Lehman Brothers, Merrill Lynch, Morgan Stanley and UBS.

From the client standpoint, says Tim Olsen, SVP and head trader at ICM Asset Management, dark pools are just one more tool, and they still don't comprise enough of the total marketplace to wring hands over deciding between them. "I probably access four or five dark books, and I don't feel I am missing anything by not accessing the other 30," he says.

Although it can be difficult for a client to tell with what kind of order flow his orders are interacting, from the customer standpoint, choice is still better than no choice, according to Olsen. But, he says, legislating choice would be a futile effort. "The regulators have to let the markets equalize themselves," Olsen says. "It still comes down to survival of the fittest -- I think the pendulum will swing and market forces will do the work for the regulators."

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