"Dark Pools, Internalization, and Equity Market Quality"
White Paper by the CFA Institute
"Today, the way in which investors, market participants, intermediaries,
and trading venues interact is highly automated and critically dependent on speed. Significantly, the dominance of the incumbent exchanges has been eroded and liquidity has fragmented over numerous trading venues as competition has intensified. Within this fragmented environment, off-exchange trading, including broker/dealer internalization and dark pools in which prices are not displayed prior to execution, has grown significantly. Undisplayed or "dark" trading away from public exchanges is estimated to account for approximately 31% of consolidated volume as of March 2012 - a growth of around 48% since the start of 2009.
From a market integrity perspective, the growth in dark trading raises potential concerns, ranging from a perceived decline in the transparency of markets.
This report presents an examination of the relationship between dark trading and market quality in order to inform public policy issues related to undisplayed liquidity and to address the aforementioned market integrity concerns. Specifically, we examine the relationship between different types of undisplayed trading volumes and market quality measures, including bid-offer spreads and top-of-book market depth."