Thirty-seven percent of U.S. equity trading volume is executed “off-exchange” including crossing systems, broker-operated alternative trading systems (ATSs) and internalization engines, and most of that business is not sent to platforms, such as dark pools directly by investors, but by algorithms that aggregate trades and route them to the venue that will deliver the best price.
Recent revelations of impropriety at certain dark pools have made traders more diligent in assessing the design, liquidity and protections offered by competing venues. For high quality pools, traders often prefer to route trading volume directly. In most cases, however, traders utilize algorithms that aggregate and analyze the liquidity, sending trades to the dark pools that will deliver the best outcomes. These algos capture 72% of trading volume executed through dark pools.
For a buy-side trading desk to independently connect to 20 or more dark pools would be expensive and time-consuming. “For each dark pool, they would need to perform due diligence, sign legal documents, establish connectivity via their EMS, establish trading and back-office relationships and, perhaps most difficult, optimally integrate these pools into their trading workflow,” says Richard Johnson, Vice President of Market Structure and Technology and author of the new report. “By using a dark pool aggregator, all of this burden can be shifted onto the broker, who can spread the costs across its entire client base.”
Bernstein’s Algo Gets Top Ratings
Sanford C. Bernstein operates the U.S. market’s top rated liquidity-sourcing algorithm, according to the results of Greenwich Associates 2016 U.S. Equity Investors Study. Out of the top five brokers in this category, Bernstein is the only firm that does not operate its own dark pool. “This impartiality when accessing dark pools has enabled the firm to build an effective product that is valued by clients,” says Richard Johnson.
When selecting either a liquidity sourcing algo or a dark pool on which to directly execute a trade, block-sized opportunities and performance are investors’ primary consideration. “When it comes to dark pool aggregators, it’s the quality of the pools not the quantity that counts,” says Richard Johnson.