The SEC announced this week its proposal to substantially overhaul the rules regarding alternative trading systems (“ATS”), often referred to as dark pools. The proposed rules would require firms operating ATSs to make additional disclosure about business activities that may present conflicts of interest between firms and ATS subscribers, and considerable information as to how the ATS operates. The proposed rules would also require advance SEC approval of a firm’s ATS disclosures.
ATSs, which account for approximately 15% of US equities trading, have been the subject of considerable regulatory interest and enforcement activity. For example, the SEC has imposed penalties on ATS operators for misleading disclosures concerning their own use of the ATS for proprietary trading, misusing confidential subscriber information, and selective disclosures that allegedly provided high frequency traders using the ATS an advantage over other subscribers. We have blogged about regulatory interest in ATSs, here, here and here.
The proposed rules address these concerns by imposing an extensive public disclosure requirement, reflected in a new Form ATS-N, applicable to ATSs that trade stocks listed on a national securities exchange. The new form would require an ATS operator to disclose information regarding potentially conflicting business activities, including those of its affiliates, such as the firm’s own trading activity on the ATS; any difference between the services and functionalities available to subscribers and those available to the firm; the firm’s arrangements with other trading centers; safeguards and procedures to protect confidential information as well as considerable other information.
The new Form ATS-N would also require additional disclosure as to how the ATS operates. This disclosure would include the ATS’s rules and procedures governing priority, pricing methodologies, allocation, matching and execution; the types of orders available in the ATS; how the ATS handles order display and execution access, among other required disclosures.
In a significant change from current rules, under the proposed rules, the SEC would review an initial form ATS-N filing and issue an order declaring the filing to be effective or, after notice and opportunity for hearing, ineffective. The new rules would also require all ATSs to have written procedures and safeguards to protect subscribers’ confidential trading information.
In her comments on the proposed rules, SEC Chair Mary Jo White stated that the staff is presently preparing an additional proposal that would require firms to provide investors further disclosure tailored to how the investor’s trades are routed and executed. Chair White indicated that the investor-specific disclosure that would be required under this forthcoming proposal – including information about order execution and size, price improvement, midpoint executions and the use of indication of interest – would complement the platform-specific disclosure required on the new Form ATS-N and discussed above.
Finally, the Chair also noted that the new proposed transparency requirements do not apply to platforms that trade fixed income securities, including government securities. Recent comments by the SEC and CFTC have reflected the desire for increased transparency in electronic fixed income markets (which we blogged about here and here), but the substantial difference between the equity and fixed income markets have led regulators to take an incremental approach to regulation in these different markets.