Disconnecting the Dark Pools of Liquidity

Tim O’Reilly tipped me off to this still submerged trend:  Dark Pools of Liquidity.

It’s a financial trading term. Dark Pools of Liquidity are computerized financial trading methods that use peer to peer exchange (crossing networks instead of traditional central clearing hubs) to hide trades. This gives an advantage to those trading and a disadvantage to those outside of the trade.

Wikipedia has a elementary definition:

Dark Pools of Liquidity  (also dark pools or dark liquidity) are crossing networks that provide liquidity that is not displayed on order books. This is useful for traders who wish to move large numbers of shares without revealing themselves to the open market. Dark liquidity pools offer institutional investors many of the efficiencies associated with trading on the exchanges’ public limit order books but without showing their hands to others. Dark liquidity pools avoid this risk because neither the price nor the identity of the trading company is displayed.

Here is a technical version from Wall Street Technology with a lot of fancy specialty language.

The report, “Locating the Invisible: Aggregating Dark Book Liquidity,” explores the market structure of dark books and asserts that the fragmentation and opacity of these venues has made finding and executing block trades increasingly complex and difficult. However, the report says, the buy side is finding solutions for tapping into this hidden liquidity through low-liquidity algorithms and smart order types that can bring together dark pools. Next-generation algorithms more intelligently execute larger blocks of stock at varying sizes, time intervals and locations to maintain the anonymity and preserve the confidentiality of an institution’s position, TABB Group points out.

This generates a cat and mouse battle as computers are used to detect dark pools as well as exploit them. In a 1993 article about cypherpunks and e-money and “Technologies of Disconnection,” I wrote;

In a world where everything is connected to everything – where connection and information and knowledge are dirt cheap -  then disconnection and anti-information and no-knowledge become expensive. When bandwidth becomes free and entire gigabytes of information are swapped around the clock, what you don’t want to communicate becomes the most difficult chore.

Darknets, private channels, unlisted numbers, and dark pools of liquidity are all technologies of disconnection. Someday some of the most important information on earth will be information that is NOT connected to the global internet.