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SEC charges UBS subsidiary with disclosure violations and other regulatory failures in operating dark pool

First Published 15th January 2015

UBS Securities to pay more than $14.4 million, including a $12 million penalty that is the SEC's largest against an alternative trading system.

Andrew J. Ceresney, Director of the SEC’s Division of Enforcement

Andrew J. Ceresney, Director of the SEC’s Division of Enforcement

"The UBS dark pool was not a level playing field for all customers and did not operate as advertised."

Washington - The Securities and Exchange Commission has charged a subsidiary of UBS with disclosure failures and other securities law violations related to the operation and marketing of its dark pool.

UBS Securities LLC agreed to settle the charges by paying more than $14.4 million, including a $12 million penalty that is the SEC's largest against an alternative trading system (ATS).

An SEC examination and investigation of UBS revealed that the firm failed to properly disclose to all subscribers the existence of an order type that it pitched almost exclusively to market makers and high-frequency trading firms. The order type, called PrimaryPegPlus (PPP), enabled certain subscribers to buy and sell securities by placing orders priced in increments of less than one cent. However, UBS was prohibited under Regulation NMS from accepting orders at those prices. By doing so the firm enabled users of the PPP order type to place sub-penny-priced orders that jumped ahead of other orders submitted at legal, whole-penny prices.

Furthermore, the SEC investigation found that UBS similarly failed to disclose to all subscribers a "natural-only crossing restriction" developed to ensure that select orders would not execute against orders placed by market makers and high-frequency trading firms. This shield was only available to benefit orders placed using UBS algorithms, which are automated trading strategies. UBS did not disclose the existence of this feature to all subscribers until approximately 30 months after it was launched.

"The UBS dark pool was not a level playing field for all customers and did not operate as advertised," said Andrew J. Ceresney, Director of the SEC's Division of Enforcement. "Our action shows our continued commitment to policing the equity markets to ensure fairness and compliance with all laws and rules."

In addition to UBS's disclosure failures that violated Section 17(a)(2) of the Securities Act of 1933 as well as its acceptance of sub-penny-priced orders that violated Regulation NMS, the SEC outlined several other violations of the federal securities laws by UBS in its order instituting a settled administrative proceeding:

The Form ATS and amendments that UBS filed with the SEC included inconsistent and incomplete statements about the dark pool's acceptance of sub-penny orders and the natural-only crossing restriction. The filing also failed to attach certain required documents.

UBS violated requirements under Regulation ATS by unreasonably prohibiting subscribers from using the natural-only crossing restriction and failing to establish written standards for granting access to subscribers.

UBS failed to preserve certain order data for the dark pool from at least August 2008 to March 2009 and August 2010 to November 2010.

UBS violated confidentiality requirements under Regulation ATS by giving full access to subscribers' confidential trading information to 103 employees who should not have had it (primarily information technology personnel).

UBS consented to the SEC's order without admitting or denying the findings. The order censures the firm and requires payment of $2,240,702.50 in disgorgement, $235,686.14 in prejudgment interest, and the $12 million penalty.

An excerpt from the full order:

"In July 2010, a UBS employee emailed an employee of a potential subscriber to the UBS ATS, cutting-and-pasting into his email the lengthy coding instructions that a subscriber needed to place orders on UBS ATS. Before sending the email and for reasons that included a prior business dispute between UBS and the potential subscriber, the UBS employee intentionally removed the portion of those instructions that described PPP and that provided the instructions needed to enter PPP orders. While the entity subsequently traded on the ATS, UBS never provided it with notice of PPP."

In an emailed statement, a spokesman for Themis Trading said:

"The partners at Themis Trading are deeply concerned over the serious violations committed by the dark pool run by UBS resulting in the $14 million fine announced today by the SEC. They believe that this is another example of the lack of disclosure requirements for dark pools and ATSs leading to preferential treatment for larger clients and HFT customers, which disadvantaged retail investors in the process. They view the UBS transgressions as some of the most serious they've seen in some time, and an example of how US equity markets have serious issues that need to be fixed."

There have been a number of scandals involving revelations associated with dark pools such as those owned by Barclays, Citigroup and Goldman Sachs. It's enough to make participants wonder, which dark pool might be next?