Why is “dark pool” good for SGX?

The Straits Times Money section today has the frontpage headline “SGX wades into ‘dark pools’”. However, to the average investor, this sounds just like another venture by the Singapore Exchange (SGX) with no major significance. CashBench points out its relevance to SGX and you.

[Photo: D H Wright]

If you’re wondering what are “dark pools” anyway, these are platforms set up to allow very large investors to buy or sell shares anonymously. Think of dark pools as off-market stock exchanges. These large investors are also not men on the street like us, but invest on behalf of large companies and even governments. Hence they’re usually referred to as “institutional investors”.

… institutional investors … prefer to buy and sell anonymously without affecting market prices.

Dark pools are a great way for institutional investors to adjust their investment portfolio because of the anonymity provided. When institutional investors buy or sell shares, they often move markets because of their large share holdings. However, news can easily leak out and make buying or selling much more expensive for them. Just a hypothetical example, if we learnt that Temasek Holdings is going to sell its 40% stake in a company within the next 3 days, what will many investors do? Follow Temasek and sell! Since the share price of this company will likely drop into the valley, Temasek will get lesser cash for its stake as it need to keep selling over the next 3 days even though the company’s share price continues to drop. Hence, institutional investors such as Temasek prefer to buy and sell anonymously without affecting market prices.

If more and more institutional investors go for dark pools, SGX will … lose more and more of its trading and clearing fees …

So, what is the relevance to SGX? Plenty. Dark pools actually compete with stock exchanges like SGX for business. If more and more institutional investors go for dark pools, SGX will progressively lose more and more of its trading and clearing fees for every buy/sell trade. Dark pools are popular in the US and Europe, and Asia will follow suit in due time. With lower revenues and lower profits, it is unlikely for SGX to repeat its performance of an annualised return of 36% for investors over the past 5 years as pointed out by CashBench in the bluest chips of Singapore article.

If you can’t beat them, join them. It’s brilliant for SGX to “wade” into dark pools now while Asia is only starting to get serious about these platforms. And why just limit ourselves to Singapore companies? SGX’s joint venture with Chi-X will cover companies listed on Australia, Hong Kong and Japan too. As dark pools get popular in Asia, this new source of income from dark pools will substitute any potential drop in revenues in trading/clearing fees. And for investors, SGX will be a more attractive investment option than without this dark pool venture.