I’ve read a couple articles on Dark Pools, but still can’t quite grasp the concept here. Its off market trading created by large banks/brokers. I’m confused on how these secretive trading circles affect share prices. How does the market adjust accordingly. Thanks.
Taken from Celent report: In open book markets, traders reveal stocks of interest, number of shares, trade direction, and satisfactory price. Traders are also generally committed to the trade. Information is available to other traders who can trade, not trade, or potentially front-run the initiating trader. Conversely, dark liquidity pools are blind-book markets that have limited or no transparency on a pre-trade basis, and frequently on a post-trade basis as well. These pools provide traders with tools to limit market impact from trading large blocks of securities due to information leakage. Dark liquidity pools today are typically sponsored by a single broker, a consortium of brokers, or by a technology company that operates very similarly to a broker. Recently, exchanges in the US have begun introducing their own dark liquidity pools in the form of continuous block crossing. Dark liquidity pools do not appeal to all types of traders. They have defining characteristics which usually appeal to only a sub-segment of traders. These defining characteristics, such as openness to dealers, acceptance of algorithmic flow, share minimums, and types of matching systems, determine the optimization of the dark pool to a particular type of trader and order type. Traders send the same information to blind-book markets as they do to the open book, but the main distinction is what these latter markets do with the information. Dark liquidity pools are often called non-displayed markets. Dark liquidity includes exchange-based liquidity, crossing systems, and dealer internalization systems. Dark liquidity pools provide traders with tools to limit market impact from trading large blocks of securities due to information leakage. Traditional analysis of the costs of trading include analysing commissions, fees, taxes, bid/ask spreads, market risk, and pre-and post-trade market impact. Dark liquidity pools thus address the market impact component of trading costs. Dark liquidity pools are a subset of Alternative Trading Systems. ATSs offer services that are substantially similar to exchanges. However, exchanges offer more diverse packages (which ATSs typically cannot offer), such as clearing and settlement (in the case of European exchanges) and trading in multiple products (equities, derivatives, bonds). The ATS value proposition typically consists of some combination of the following factors: improved liquidity, faster execution times, lower trading cost, anonymity, limited market impact, and narrower bid-ask spreads. On ECNs and in separate venues, dark liquidity pools emerged in the US to address the problem of information leakage to the general marketplace. The first dark liquidity pool was a special order type originally offered by Instinet to trade stocks only between institutional investors, to avoid leaking information to the broader market. Thus, dark liquidity pools presented a challenge to traditional brokers in only one niche area of trading–crossing large blocks. Now, however, dark pools are challenging brokers and exchanges on virtually all fronts. p.s. Dark liquidity pools are electronic trading venues that do not quote prices. They match buyers and sellers anonymously, minimising information leakage and market impact, often with lower direct trading costs.