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Should we be afraid of the dark? Dark trading and market quality

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  • Foley, Sean
  • Putniņš, Tālis J.

Abstract

We exploit a unique natural experiment—recent restrictions of dark trading in Canada and Australia—and proprietary trade-level data to analyze the effects of dark trading. Disaggregating two types of dark trading, we find that dark limit order markets are beneficial to market quality, reducing quoted, effective, and realized spreads and increasing informational efficiency. In contrast, we do not find consistent evidence that dark midpoint crossing systems significantly affect market quality. Our results support recent theory that dark limit order markets encourage aggressive competition in liquidity provision. We discuss implications for the regulation of dark trading and tick sizes.

Suggested Citation

  • Foley, Sean & Putniņš, Tālis J., 2016. "Should we be afraid of the dark? Dark trading and market quality," Journal of Financial Economics, Elsevier, vol. 122(3), pages 456-481.
    • Handle: RePEc:eee:jfinec:v:122:y:2016:i:3:p:456-481
    DOI: 10.1016/j.jfineco.2016.08.004
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    More about this item

    Keywords

    Dark pool; Dark trading; Regulation; Liquidity; Market efficiency; Transparency;
    All these keywords.

    JEL classification:

    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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