* Exchanges pressing for MiFID amendment on 'dark pools'
* Banks say dark pool trading volumes relatively small
* Banks seek support from institutional clients
By Luke Jeffs
LONDON, Dec 6 (Reuters) - Top investment banks which offer their clients 'dark pool' share trading platforms are facing an uphill battle against Europe's stock exchanges over keeping these murky trading venues outside the mainstream of market regulation.
European regulators are set to publish a consultation paper on Wednesday proposing controversial new rules to restrict the activities of the banks' dark pools, which anonymously match large buy and sell orders, when operated as a broking service rather than a marketplace.
Brussels will outline the new restrictions as part of its long-awaited amendments to the Markets in Financial Instruments Directive (MiFID), which in 2007 opened up European share markets to cross-border competition and the advent of pan-European electronic multilateral trading facilities (MTFs).
"The members of the European Parliament think that MiFID failed and they expect much more out of MiFID II," said Andrew Bowley, a managing director at Nomura.
The world's largest investment banks have set up in the past three years two types of alternative trading venues: proprietary systems that match up client orders privately, known as dark pools, and exchange-like MTFs, which are more tightly regulated.
Together they have claimed up to a third of stock market trading activity in just three years.
NYSE Euronext, which trades French, Dutch, Belgian and Portuguese stocks, has seen its market share drop to 68.3 percent this month from 97.5 percent at the start of 2008.
Meanwhile Deutsche Boerse now has a German market share of 68.9 percent compared with 98.5 percent three years ago while the London Stock Exchange has been hardest hit with 51.1 percent of UK trading this month compared with 95.8 percent in early 2008, according to Thomson Reuters data.
Europe's three main exchanges offer their versions of the banks' dark pools but the main difference is in how these services are treated by regulators.
The exchange pools are regulated as quasi-exchange MTFs while the bank pools are currently treated as a function of the banks' broking.
Many large investment banks operate their own internal dark pool trading systems, including Barclays, Credit Suisse, Deutsche Bank, Goldman Sachs, Morgan Stanley, Nomura and UBS.
Dark pools are popular among fund managers because they enable the sale or purchase of large, market sensitive volumes away from the public glare of a stock exchange order book.
But the exchanges have questioned whether it is fair that this business is being conducted by the banks privately on what they say are thinly regulated systems, while they are subject to tougher rules themselves when offering what they say is an identical service.
REGULATORY CHANGES
The European Commission will propose next week that the dark pools are regulated as MTFs if they exceed a certain size threshold, making the rules much stricter.
The Federation of European Securities Exchanges -- which has been lobbying hard for the amendment, saying that it will enable its exchange members and brokers to compete more equally.
The pending EC proposal also follows a report by European Parliament member Kay Swinburne, who late last month called for tougher restrictions on bank pools.
"We take heart from the Swinburne Report's assertion that if you've set up a multi-lateral trading pool the business should be approved as a regulated market or multi-lateral trading facility," said FESE deputy secretary general Burcak Inel.
BANKS BRISTLE
The banks say the exchanges have exaggerated the size of dark pools in claiming that as much as 40 percent of European trading takes place away from exchanges, when the real number is much less than 5 percent on a monthly basis.
"The majority of the 40 percent is reported flow not real liquidity so it does not follow that this needs to be made transparent," said Bowley.
"My concern is that some firms might be looking to use regulation as their means to reduce competition," said Alasdair Haynes, who heads MTF and dark pool operator Chi-X Europe, which is owned by investment banks.
In seeking to win over the support of European regulators the banks say they plan to call on their asset management customers to explain how dark pools enable those firms to trade more cost-effectively, which ultimately means a better deal for pension fund holders according to the banks. (Editing by Greg Mahlich)