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Chi-East in the news - 04/03/10 - 04/03/10, Financial Times, Asian traders warm to benefits of dark pools

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Financial Times: Asian traders warm to benefits of dark pools 4 March 2010 By Kevin Brown

In a small office halfway up a Singapore skyscraper, Greg Henry grabs an icon representing 2.3m shares in HSBC and moves it across his computer screen.

Almost instantly, a trader offers to buy 10 per cent of the block at the current mid-point price on the Hong Kong stock exchange one of five potential matches automatically identified by the system.

In a couple of clicks the trade is done and the order processed. And thats Liquidnet, says Mr Henry, head of the US institutional trading companys Singapore office. Its pretty simple really.

In fact, the trade was a demonstration and no shares have changed hands. On the live system, both sides of the trade would have been anonymous, except to each other and Liquidnets regulatory compliance unit.

The speed and size of the mock trade demonstrate, however, why alternative trading venues especially dark pools, such as Liquidnets are beginning to make inroads into share trading in Asia.

Sang Lee, a consultant for the US-based Aite Group, says off-exchange venues have captured 1-2 per cent of the Asian equities market by turnover. He predicts that the total could rise to as much as 20 per cent by 2010 if the newcomers can persuade regulators to let them operate more freely.

I would say that we are in a waiting period, says Mr Lee. Some of these markets are going to push forward, and built into our assumptions is that there will be new regulations over the next couple of years that will make it possible for ATS [alternative trading systems] to grow in Asia.

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Alternative venues are allowed in Japan, Hong Kong and Singapore. Australia is still considering a proposed removal of its ban on exchange competition, and in many other countries the regulations are unclear or hostile.

In India, for example, competing systems offering algorithmic trading are allowed, but dark pools private trading networks that do not display prices and report trades publicly only after trades have been completed are not.

The regulatory position is further complicated by the differences between such venues mirroring similar differences in the US and Europe. Some function mainly as venues for algorithmic trading, and are relatively uncontroversial. These systems, sometimes referred to as internal crossing networks because they typically handle proprietary and client orders, are operated by a dozen big brokers including Nomura, Instinet, Credit Suisse, Macquarie and UBS.

In some countries they also offer clients direct market access to the local exchange.

A second form of alternative venue has emerged in Japan. They are known as Proprietary Trading Systems, roughly equivalent to the multilateral trading facilities in Europe, such as Chi-X Europe and BATS.

The Japanese versions compete with the Tokyo Stock Exchange for retail trade and include SBI Japannext, 35.7 per cent owned by Goldman Sachs with the rest held by SBI Holdings, a Japanese financial services firm. Monex Nighter, a smaller rival, caters to salarymen who want to trade after their own working day, and bases its trades on the TSE closing prices.

A third category is dark pools owned by independent operators such as US-based Liquidnet, which operates globally and Singapore-based BlocSec, owned by the Hong Kong broker CLSA.

These systems enable institutions to buy and sell large blocks of shares in a single order, rather than being forced to split the order to make it suitable for the public exchanges, where average order sizes are much smaller.

This keeps commission charges down, and ensures prices do not move while the trade is going through because news of a big buyer or seller in the market has leaked out.

Dark pools have been attacked by top exchange officials, notably in Japan and Hong Kong. Atsushi Saito, president of the Tokyo Stock Exchange, told the Financial Times recently that they should be shut off, claiming their alleged lack of transparency could cause a second financial crisis.

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However, SGX, the Singapore exchange, is taking a radically different approach. Instead of fighting the alternative venues it is setting up a dark pool of its own called Chi-East, in a joint venture with Chi-X Global, a sister company of Chi-X in Europe. Nomura is a large shareholder in the venture.

Magnus Bcker, SGX chief executive, says: My approach is to say that if the institutions in the market want to trade in different ways and the brokers want to support them in that, why wouldnt we help them to facilitate that?

Brokers sometimes need to be able to do deals between themselves. You need to sometimes do it on market, you
need dark pools. A market with many facets is always more liquid, more successful. Officials at alternative venues say they are simply providing a wholesale market for institutions that does not exist on public exchanges, and are often contemptuous of complaints about transparency from exchanges and governments. Robert Laible, Nomuras Asia-Pacific head of electronic services and programme trading sales, says: The exchanges have acted as monopolies, historically, and they have had to answer to two constituencies the institutional, which has grown enormously in size and sophistication, and the retail market.

If you were Walmart and you wanted to buy 1,000m widgets you would get a discount for that, but that is not how
the exchanges work.

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