Flash Orders and Dark Pools

Controversial trading techniques that may give some investors an unfair advantage.

The U.S. Securities and Exchange Commission may move to ban certain novel trading methods, Charles Duhigg reported for The Times:

The S.E.C. chairwoman, Mary L. Schapiro, said on Tuesday that she would push to eliminate a controversial high-frequency trading technique known as “flash orders,” which allow traders to peek at other investors’ orders before they are sent to the wider marketplace.

Duhigg explained:

In a flash order transaction, buy or sell orders are shown to a collection of high-frequency traders for just 30 milliseconds before they are routed to everyone else. They are widely considered to give the few investors with access to the technology an unfair advantage, even by some of the marketplaces that offer the flash orders for a fee.

Also under scrutiny, according to Duhigg, are “semiprivate marketplaces known as ‘dark pools,’ which are available only to select investors”:

Dark pools … are useful to institutional investors like mutual funds because they offer the ability to anonymously buy or sell shares in private marketplaces without revealing the price until all trades are completed. Large investors often prefer such transactions when they wish to trade big blocks of shares, out of fear that announcing their intentions will set off a run in prices.

But some dark pools are open only to select investors. And they often give participants quick peeks at orders before they are filled, offering valuable insight on how prices are likely to shift once the transaction is announced.