Goldman Sachs (NYSE:GS) recently revealed that it was considering closing its dark pool markets due to increased concerns about technical glitches, as well as and heightened scrutiny of high-frequency trading, following the publication of Michael Lewis' Flash Boys.
What is a Dark Pool?
"Dark pools" act much like stock exchanges, but the trades are anonymous, and the fees are lower than traditional trades. The orders go unreported until the trade is executed. Critics say that dark pools make it impossible for the true value of stocks to be known.
Some believe the advantage of dark pools is that they can move large volumes of stock without having an impact on the general market. Disadvantages are that trades are not transparent, and prices become distorted - with a distinct disadvantage to those unaware of the large trades being made.
The Stigma Against Sigma X
Sigma X Trading was considered one of the world's largest private trading markets, accounting for about one percent of total trading in January of this year. Goldman Sachs started Sigma X in 2005. By 2009, it dominated the dark pool market in the United States and Europe.
In March, Goldman was forced to send checks to clients to compensate for pricing errors found in its Sigma X trading in August of 2011, according to a Bloomberg article in March of 2014.
A Ripple Effect?
Competition has amplified the emergence of new dark pools, resulting in the market becoming increasingly fragmented. If a decision is made to close Sigma X, it could affect the entire financial sector. Other banks with dark pools may also feel compelled to close down their operations, which, in turn, would change how buy and sell orders are handled by large investors.
Risks To Closing Sigma X
Goldman executives are currently trying to determine if the revenue from Sigma X outweighs the risks of the operation. Stock trading brought in $7.17 billion for the firm in 2013, excluding accounting charges; however, it is unclear how much of this derives from Sigma X. Currently, Goldman doesn't break out Sigma X revenue. Until Sigma X revenues are clarified, investors will not have a clear sense of the risk to GS in closing the dark pool.
Conclusion For Investors of Goldman Sachs
While no decision has yet been made, investors should applaud Goldman Sachs' consideration to close the dark pools and restore a measure of transparency to stock market trading, and a greater tendency toward consideration of both legal and public relations concerns.
In addition, investors should be optimistic that Goldman is attempting to alleviate risk associated with dark pool trading and secure its operations. While it remains unclear how much revenue the firm could lose by closing Sigma X, it is likely that Goldman's myriad other business platforms will continue to bolster GS stock.
We see these steps as very positive for the shareholders of Goldman Sachs.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.