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  • Shining Light on Dark Pools.
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  • Shining Light on Dark Pools.

Media can only be downloaded from the desktop version of this website. They are a growing presence in stock trading, now representing at least one-eighth, and possibly much more, of all stock trading volume in the U. But a new paper by an MIT professor, to be published in the Review of Financial Studies , asserts that this is not necessarily the case. Dark pools, it says, can actually help price discovery in the right circumstances.

Dark Pool Settlements Spark Calls for Greater Transparency

They do this, in part, by attracting less-informed traders, while better-informed traders — who may place a premium on acting quickly to execute trades — may be unable to fill their orders in smaller dark pools, and head back to the public exchanges to do business. Dark pools are believed to have originated in the s, but have gained much more traction in the last half-decade. A study by the Securities and Exchange Commission estimated that 32 such dark pools, some run by prominent financial firms, represented about 8 percent of stock trades; a consulting firm, the Tabb Group, and a brokerage, Rosenblatt Securities, estimated in that dark pools handle 12 percent of U.

Along with that growth has come concerns about transparency problems in the markets. For investors, the appeal of trading in a dark pool is the ability to make transactions without moving the market. Consider a well-informed investor with good information about firms — say a large institutional investor, such as a mutual fund.

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Suppose such an investor is buying some of its shares in a public company. But many of those smart investors will discover liquidity problems in the dark pool: They crowd on one side of the market, and there may not be enough underinformed investors willing to take the other side of the trade.

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Needing to execute the trade promptly, the well-informed investors hurry back to the public stock exchanges in a greater proportion than the less-informed traders. The aggregate information generating price discovery on the public stock exchanges will thus be more accurate on average when dark pools are part of the process.

He also provides some caveats about his findings: For example, if dark pools use opaque rules, well-informed investors may not rush back to public exchanges as quickly. Moreover, better price discovery can coincide with worse liquidity, in the form of wider bid-ask spreads and higher price impacts on exchanges.

Dark Pool Settlements Spark Calls for Greater Transparency

Other scholars say the work yields valuable insights about the potential effects of investor behavior. Over the past decade these platforms have swelled in size and number, as retail investors, high frequency traders and banks pushed a larger share of volume off the lit exchanges, and U.

FlowAlgo Darkpool Insights - Late Signature Orders and Equity Blocks

After two of the largest dark pool operators, Barclays Capital and Credit Suisse Securities, settled lawsuits with the SEC and New York attorney general in January, nearly all dark pool patrons are demanding more disclosure. Barclays was accused of not disclosing the extent to which high frequency traders participated in its LX dark pool, whereas Credit Suisse allegedly tipped off two high frequency firms when other clients placed orders in its Crossfinder trading venue.

The irony is, information protection is the main reason institutional investors, like the Teacher Retirement System of Texas, started using these platforms.


Unfortunately, the solution for investors may not be so simple as avoiding less trustworthy dark pools. Nearly 40 percent of daily equities trading in the U. With 37 dark pools and 12 exchanges, navigating all of the different rules, structures and constituencies sounds like a tall order for traders. So, what information are clients currently lacking? ATSs should also provide formal statements on how their systems support the SEC best-execution mandate, clearly stating their value proposition. When it comes to best practices, some traders are already voting with their feet.