Dark pool trading halves as Mifid II requirements finally kick in

Dark pool trading has halved in the wake of new rules finally introduced by the European markets regulator this month, according to new research.

The European Securities and Markets Authority (Esma) aimed to limit the use of dark pools – opaque and private venues where trades can be executed – in the second Markets in Financial Instruments Directive (Mifid II).

It capped the amount of a stock which can be traded “in the dark”, through rules which kicked in earlier this month when Esma revealed that stocks such as HSBC, Barclays and Lloyds Bank had already breached the caps. This means they cannot be traded in the dark for six months.

But data from Thomson Reuters revealed today that liquidity instead seems to be moving to periodic auctions, where investors will auction off stocks over the day.

“The double volume cap for dark pool trading is designed to increase transparency and move transactions onto lit markets," said John Mason, head of regulatory and market structure strategic response at Thomson Reuters.

"With the caps only in effect for just over a week, the early signs are that liquidity has moved to periodic auctions. If the result of the trading caps is to shift trading out of dark pools into periodic auctions, then the regulator has not really achieved what it was trying to."

Dark pools were originally created to allow large block trades to be completed away from public scrutiny, so as not to affect the market price before the deal was done.

However they had been increasingly used as a means of keeping even tiny trades out of the public eye.

Esma has allowed for a "large-in-scale waiver", which firms can apply for to complete big trades in the dark without them counting towards the volume caps.

But Thomson Reuters' data implied there had been no notable increase in the use of large-in-scale waivers.

“It is interesting to see that use of the large-in-scale waiver is unchanged so far," said Mason. "Expectations were that this would become more popular once the caps were in place as firms grouped orders together into blocks large enough to qualify. Doing this depends on sophisticated execution management."

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