Dark Pools, FINRA and the Observer-Expectancy Paradox

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I wrote about Dark Pools back in June (https://reconnomics.com/2013/06/07/hft-update-dark-pools-raise-concerns-for-regulators-and-private-investors/), and how in this interesting corner of Wall Street traders can move large blocks of stock anonymously. Well, this week, new rules were proposed the Financial Industry Regulatory Authority (FINRA) that would force these markets to disclose trade data.

As the article notes:

U.S. stock-market regulators approved a plan for new rules requiring private trading venues such as “dark pools” to disclose and detail trading activity on their platforms.

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The move would give market authorities their clearest view yet into private markets that claim a growing slice of daily stock dealing and would help police potentially abusive trading practices, according to regulators.

The Financial Industry Regulatory Authority’s staff are expected to propose the new regulations in the coming weeks, and the Securities and Exchange Commission will need to approve them.

This is a step in the right direction. Markets actors depend on visibility into buy-sell signals, and shedding some light into Dark Pool activity is a necessary step for regulators like FINRA and the SEC. However, the action by FINRA brings to mind a phenomenon from psychology known as the  “Observer-Expectancy Effect.” In this phenomenon, the experimenters’ cognitive bias causes them to impact the subjects of the experiment. In other words, the idea is that sometimes just looking at an ongoing process causes it to take a different course.

Of course, the reason Dark Pools exist is that traders want anonymous platforms. The moment these platforms are no longer anonymous, trader behavior will change, and they will seek other mechanisms to reach the goals that launched Dark Pools in the first place. So while FINRA’s actions are the right move conceptually, practically they will probably have little enforcement value. The money will just move to another dark corner of Wall Street where FINRA and other have yet to shed any light.

 

Read more:

http://online.wsj.com/article/SB10001424127887323740804578601784244525250.html?mod=WSJ_hp_LEFTWhatsNewsCollection

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