LONDON (Reuters) - Regulators should curb off-exchange trading in so-called dark pools to ensure investors see tighter spreads and face lower costs, the head of the World Federation of Exchanges (WFE) said on Wednesday.
Dark pools are electronic trading networks that allow investors to buy and sell stocks anonymously, in private deals so other shareholders are not aware of the trades. Some of the details are made public but only after the market has closed.
The pools sprung up as a result of regulation which allowed alternative trading venues to compete with traditional exchanges. They are typically used by large fund managers and banks who regularly trade large volumes of stocks.
They have been rising in popularity in recent years, accounting for 5.84 percent of all European share trade in September, more than double the 2.8 percent volume recorded in September 2011, according to Thomson Reuters and Markit data.
In the U.S., more than a third of stocks are traded through dark pools.
In a closing address at the European Exchanges Summit in London, WFE Chief Executive Huseyin Erkan said regulation intended to promote competition has “been misused to enable growth in areas designed to avoid competition”.
Referring to WFE research, Erkan said the effect of dark pools has been wider spreads on prices of securities and less liquidity in on-exchange markets, making them less efficient for investors.
“There is a need for some of that OTC (over the counter) trading, there is a need for some of that anonymity. However, the regulators, as well as the exchanges, have to sit down and think about what is really good for the public,” he said.
Erkan, the former head of the Istanbul Stock Exchange, said regulators should follow the lead of Australia and Canada, which have already taken steps to control dark pools.
In Canada rules setting minimum sizes for dark orders that do not give a significantly better price than public exchanges have been in place for a year.
In March, Australia proposed new rules that would create a minimum threshold for orders in dark pools and improve disclosure and supervision of off-exchange trading.
“It is a good indication of effective regulation, which... has actually shown enhancement in market quality,” Erkan said of those measures.
The European Union has proposed caps on dark pool trading in the next revision of Markets in Financial Instruments Directive (MiFID), currently under discussion in Brussels.
In the U.S., the Financial Industry Regulatory Authority (FINRA), last month filed a proposal that would see alternative trading systems (ATSs) required to report weekly volume and number of trades.
Dark pool proponents say the competition the alternative trading venues provide has kept trading prices on exchanges in line, and that if dark pools did not exist, trading prices would likely be much higher.
Reporting by Clare Hutchison; Editing by Elaine Hardcastle