Excellent. Another dark pool for people who think that they are safe. There are already have a bunch of these, Crossfinder, Liquidnet etc.
Here's how you game them without being detected. Have your long term hedge fund/mutual fund department set up an connection to that market. Make sure that you only do long term investing on these venues (e.g., buy blue chip stocks that have low PE) so that they don't ban you.
Now you feed the information about displayed liquidity on high volatility stocks that you are interested in trading (e.g., small biotechs) from those exchanges. Especially this new one that isn't even a dark pool but has displayed liquidity.
Now next you use that information to front-run the mutual funds who are trying to execute their VWAP in other exchanges such as BATS. Most investors don't have access to dark pools and dark pools aren't obligated to conform to NBBO, so you could get cheaper shares elsewhere and sell when the VWAP is reported in the next hour/end of trading day by dark pools.
Other way you can play this is play the liquidity rebate game. So much rebate, $.14/100 shares. Just trade C all day long, high liquidity, low slippage. Offer and buy back at same price as long as C doesn't slip too much. Guess who's paying for the rebates, the mutual funds who's taking the liquidity. Wall Street, what a scam.
Typical stock exchange is a lot of like eBay bidding auction. A full-depth of quote book is maintained for the best and near-best bid and offers. When a buyer's highest bid price matches with a seller's lowest offer price matches, an transaction is made. For those bids and offers that are below/above the current market price, they are kept on the books.
Now HFT algorithms, daytraders and market-makers all monitor this full-depth book for patterns whenever a large order is coming in. Suppose I'm a Fidelity Investment trying to acquire 5 million shares of MSFT for my $20 billion mutual fund, if I just put that huge order out there on the order book. Everyone else will jump in and buy MSFT; front-running me because stock market is like everything else, supply-and-demand; when there's a huge demand and you buy the supply ahead of time, you can charge more and make profit.
So to disguise my huge order, mutual funds prefer dark pools where the full-depth of books are not maintained. Instead, it's like shooting fish in the dark. A big mutual fund wants to buy 5 million shares of MSFT at 25, another big fund wants to sell 5 million shares at MSFT at 25. You submit your order to that market totally blind because there's no quote book and just have to see if your order gets filled. But the positive side is that no one could see where the market demand and supply is, so the mutual funds gets their orders filled and not front-runned. Dark pools also typically limit their participants to large institutional investors to limit the information because what HFT firms used to do is to "ping" the dark pools, send out random orders to buy 1 share of MSFT at a certain price to see if there's a "whale" order out there and then proceed to front-run. So lots of them got banned.
Now, the problem with dark pools is that there are sometimes not many people who trade on it because it's "dark," kind of like egg-and-chicken problem, no one could see the full-depth of book and so don't put their orders out there. That's what's called lack of "liquidity". Exchanges want to have people trade, because the higher volume, the more people will come and trade on that venue and the more money they make. So this "light pool" tries to fix this problem by having "displayed" quote book but the market participants are still limited and regulated still to make mutual fund participants comfortable about not being front-runned.
Well, as the saying goes, "it's never illegal unless you get caught"; so suppose if you are a huge fund or a bank with a HFT prop desk. You could register your mutual fund section with this "light pool" for its displayed liquidity. Now, you might even do some real trades on the exchange to make everything legit; but feed the market data section for your HFT prop desk which is registered with a totally different LLC designation, and have that fund execute orders on other exchanges based on information from this "light pool" (e.g., whale buy order on IBM on "light pool," front-run IBM on BATS).
Now for liquidity rebates on these exchanges, exchanges are now locked in a bitter battle to see who can attract the most volume and trades (because it's a snowball effect, more volume, more interested traders who come on to trade, more money). So they offer "liquidity rebates" for traders who put orders out there on the full quote-book because the more entries on a exchange's order book means that there are greater potential for greater volume on a exchange. A more concrete example is, let's say I'm a liquidity rebate trader on Citigroup (NYSE: C); C is last traded at $4.30, with national's best bid at 4.29 and national's best offer at 4.30 (NBBO). So I could submit out a sell order for C at $4.30 on the exchange's quotebook (I don't have to physically own C, I could short sell the stock). Now although NBB was at 4.29, someone might come alone and they are really impatient and submit a market order to buy C at $4.30 and they hit my order; now they are "taking" liquidity that I put out there on the market. So they are paying the exchange for the liquidity for doing so, typically, $0.02-$0.05/100 shares and to encourage more liquidity providers like me, the exchange passes some of that profit to me, $0.01-$0.03/100 shares.
Now a stock like C is heavily traded, there are literally thousands of orders on C's quotebook just between $4.30 and $4.29; suppose that a bad/good news come out on Citigroup, many of the traders who have their offers to buy or sell C at these cents increments might not all cancel their orders to adjust the valuation of C to the new news. This is called "low slippage," that in a high volatile event, you could trade out of your positions very easily with no "slippage" as trading in a small cap stock where in a volatile event, no one's willing to trade with you.
This is perfect for a liquidity rebate trader who literally goes around all day, offer to sell C at 4.30 and then buying back their short C shares at 4.30. They break even on the trade and get to collect $0.02-$0.05/100 shares liquidity rebates. So you do this over and over again on the market, generating higher volume on the exchanges and get to collect more rebates and everyone's happy at the expense of the liquidity takers. Now, with this exchange, the liquidity rebate is at $0.14/100 shares because they want to be attractive to the liquidity rebate crowd and generate lots of volume; and because the rebate is high, you could afford even higher slippage on C.
This comment seems to be off the mark at a number of levels -- I love hacker news, and am doing this to return some of the value I have gotten from the community here.
Take "e.g., buy blue chip stocks that have low PE) so that they don't ban you. .. Now you feed the information about displayed liquidity on high volatility stocks that you are interested in trading (e.g., small biotechs) from those exchanges.."
If you are trading blue chips at an illiquid (CSFB run) market center what information will that give you about "small biotechs"?
".. dark pools aren't obligated to conform to NBBO" : this is an incorrect understanding of how US stock markets work -- dark pools, with exceptions that don't count for too much volume, will have to print at the NBBO (Reg NMS, Rule 611, if you want chapter and verse http://taft.law.uc.edu/CCL/regNMS/rule611.html).
Also you don't need to trade at this venue to see what is being traded there: another provision of Reg NMS requires all ATSs to print within a short period of time into the tape, which is also by law disseminated nationwide as the last sale info in the name. By simply looking to see prints from this center, and which side of the midquote the prints are on (called the Lee-Ready test in the field, after a 1991 paper by those guys) will tell you if there are long duration buy orders or long duration sell orders active.
Turning to the merits of the proposal above, seems like a good idea, although the fact that csfb (or any big bank) is running it will cause most experienced traders to be skeptical of the exalted rationales being presented. If a broker that is handling flow runs a market center as well, without exception they wind up abusing the flow or the market center to make more $$.
Have read a lot of good stuff here; keep up the good work, all.
Kudos to doing and citing the research. You are right, every exchange has to conform to NBBO. But some of dark pools don't necessarily keep quotebooks to be coy, they instead keep a book of "IOI" (indications of interests). So in an event where a regular trader get a better price at dark pool versus say BATS/INET, their order wouldn't get redirected to dark pool for execution at NBBO. But if a trade does happen between the participants in a dark pool, if a third-party exchange can offer better price then the pool is obligated to redirect to that market to fill at that price.
Your second point of RegNMS requiring exchanges to print all their trades. Dark pool report their trades in their own idiosyncratic way. Suppose a large block order went down, I and my counterparty could agree on a VWAP price and just slowly complete our trade over the course of the day or even several days to obscure the order from the market. So reporting might be done, but it might be done as slow and as obscured as possible.
And talking about Credit Suisse, CSFB and other banks used to have a suite of VWAP algo's for their customers but they have curiously not updated the algo in the past 4 years. Why not? CSFB's internal trade desk probably is probably constantly developing better algo's but because they want to keep their own customers from having better market obfuscation and be able to front-run; they don't release these tools to their customers.
Here's how you game them without being detected. Have your long term hedge fund/mutual fund department set up an connection to that market. Make sure that you only do long term investing on these venues (e.g., buy blue chip stocks that have low PE) so that they don't ban you.
Now you feed the information about displayed liquidity on high volatility stocks that you are interested in trading (e.g., small biotechs) from those exchanges. Especially this new one that isn't even a dark pool but has displayed liquidity.
Now next you use that information to front-run the mutual funds who are trying to execute their VWAP in other exchanges such as BATS. Most investors don't have access to dark pools and dark pools aren't obligated to conform to NBBO, so you could get cheaper shares elsewhere and sell when the VWAP is reported in the next hour/end of trading day by dark pools.
Other way you can play this is play the liquidity rebate game. So much rebate, $.14/100 shares. Just trade C all day long, high liquidity, low slippage. Offer and buy back at same price as long as C doesn't slip too much. Guess who's paying for the rebates, the mutual funds who's taking the liquidity. Wall Street, what a scam.