News & Views

ADAM’S TAKE: Reg ATS: The SEC’s New Vision Test

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I don’t want to write much about the U.S. Securities Exchange Commission’s (SEC) new and improved Reg ATS proposal because when it passes we are all going to have more than enough to read. The premise of the new Reg ATS rule is that dark pools have matured to the point where the benefit to the industry of increased operational transparency outweighs the risks of stifling further innovation. But the real risk this rules poses is damage to our eyesight and frankly, our collective sanity. Having said that, there are still those among us who want to make sense of US equity market structure (me included) and, therefore, by definition, are gluttons for this kind of punishment.

At first glance, the fact that the SEC is going to force a bunch of dark pools to publish their trading rules seems like a game of catch-up. Let’s not forget that at least twelve dark pools already make their Form ATS public. In addition, FINRA ATS Transparency Data has made market share a public asset. Finally, firms like KOR Group, Rosenblatt Securities and TABB Group have been collecting information voluntarily from dark pools to assist traders in making apples-to-apples comparisons. But characterizing this rule as nothing new does a disservice to the poor souls that are going to have to read all this stuff. And yes, people are going to need to read it. Here’s why:

  • The SEC is moving to a more direct approval process for individual dark pools. Therefore, at the very least, SEC staff is going to read all of the filings.
  • The minimum amount of information in the new Form ATS-N will contain much more information than most of the current public documents reveal and will be available to the public.
  • Anything a broker can do for its customers that use its ATS will also be made public, most of which is probably not in today’s Form ATS. That’s likely to cause the disclosure of a substantial amount of new information.
  • Any amendments to the form or exhibits will also need to be publicly filed.

From the dozen or so dark pools that have published their Form ATS, I would estimate that the average document is about 30 pages. After the rule is in effect, the remaining 22 trading venues will also have to step into the light. That’s nearly a 200% increase in legalese. But it doesn’t stop there. I would guess that the additional information that will be required will push the average length of the document to 55 pages. That’s a whopping 534% increase in legal documents!

And we’re just getting started. Every amendment will also need to be filed and made public. Let’s do some more math: if every amendment is 10 pages and each ATS files six per year, that’s another 2,100 pages of amendments annually. Thank heavens for good vision care coverage. (Or maybe we can get all of these translated into audiobooks? I’m thinking Seth McFarlane could make anything sound interesting).
I don’t know anyone who would argue against the SEC updating Form ATS. The rule was written nearly 20 years ago, prompted by dramatic technology-driven changes to competition and market structure. The revised rule is a logical response to the dark pool industry’s increase in market share and importance for NMS stocks*.

One of the criticisms of the recent spate of ATS enforcement actions is that they all seem to imply “Anything goes, as long as it’s disclosed.” These critics will find little solace in the new proposal, which simply tries to make sure that every possible conflict of interest (real or potential) is disclosed. There is no ban on the kind of conflicts that might arise between an ATS and its affiliates. And it’s not as if these conflicts need to be disclosed as conflicts. Investors will need to uncover the conflicts, assess the risk and make a decision.

Now you see where I am going with this, right? If you work at a firm that wants to stay on top of the potential conflicts embedded in the structure and operations of one of the 35 dark pools, someone is going to need to read these mounds of documents, analyze the implications, summarize it, and ultimately figure out whether or not any action will need to be taken.

The route that the SEC has taken is defensible. The majority of firms that access dark pools are sophisticated enough to make a decision as long as they have the necessary information. But part of me, mostly my eyes, wishes that the SEC would take a page (pun intended) from other markets that have been more proactive in defining the kind of dark pool activities that enhance market structure and those that are more likely to do harm.

Until then, see you at the eye doctor.

* Not all dark pools are registered as an ATS. And not all ATSs are dark pools. However, most ATSs are dark pools, so it’s the most logical way to view the rule. In addition, we will cover proposed rules for Corporate Bond and Treasury ATSs separately.

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