Dark trading, adverse selection and liquidity in aggregate markets

Matteo Aquilina; Ivan Diaz-Rainey; Gbenga Ibikunle; Yuxin Sun

Dark trading, adverse selection and liquidity in aggregate markets

Matteo Aquilina, Ivan Diaz-Rainey, Gbenga Ibikunle, Yuxin Sun

Research output: Working paper

Abstract

We present the first evidence of the impact of dark trading on aggregate market quality. We find that dark trading at moderate levels enhances aggregate market transparency and liquidity, and reduces both adverse selection risk and pricing noise. However, there is a trading value-based threshold when dark trading starts to induce adverse selection, and thus impair market quality. We estimate this threshold to be about 16% of the aggregate FTSE350 index stocks’ trading value. The threshold varies according to stock trading activity, from about 9% for the most liquid stocks to 35% for the least liquid stocks in the index.

Original language	English
Number of pages	61
Publication status	Published - May 2017

Keywords

dark pools
networked markets
adverse selection
market transparency
pricing noise

1 Finished

City Goes Dark: Do Dark Pools Damage Market Quality and Fairness?
Ibikunle, G.
1/08/15 → 1/05/16
Project: University Awarded Project Funding

Cite this

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title = "Dark trading, adverse selection and liquidity in aggregate markets",

abstract = "We present the first evidence of the impact of dark trading on aggregate market quality. We find that dark trading at moderate levels enhances aggregate market transparency and liquidity, and reduces both adverse selection risk and pricing noise. However, there is a trading value-based threshold when dark trading starts to induce adverse selection, and thus impair market quality. We estimate this threshold to be about 16% of the aggregate FTSE350 index stocks{\textquoteright} trading value. The threshold varies according to stock trading activity, from about 9% for the most liquid stocks to 35% for the least liquid stocks in the index.",

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N2 - We present the first evidence of the impact of dark trading on aggregate market quality. We find that dark trading at moderate levels enhances aggregate market transparency and liquidity, and reduces both adverse selection risk and pricing noise. However, there is a trading value-based threshold when dark trading starts to induce adverse selection, and thus impair market quality. We estimate this threshold to be about 16% of the aggregate FTSE350 index stocks’ trading value. The threshold varies according to stock trading activity, from about 9% for the most liquid stocks to 35% for the least liquid stocks in the index.

AB - We present the first evidence of the impact of dark trading on aggregate market quality. We find that dark trading at moderate levels enhances aggregate market transparency and liquidity, and reduces both adverse selection risk and pricing noise. However, there is a trading value-based threshold when dark trading starts to induce adverse selection, and thus impair market quality. We estimate this threshold to be about 16% of the aggregate FTSE350 index stocks’ trading value. The threshold varies according to stock trading activity, from about 9% for the most liquid stocks to 35% for the least liquid stocks in the index.

KW - dark pools

KW - networked markets

KW - adverse selection

KW - market transparency

KW - pricing noise

M3 - Working paper

BT - Dark trading, adverse selection and liquidity in aggregate markets

ER -

Dark trading, adverse selection and liquidity in aggregate markets

Abstract

Keywords

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City Goes Dark: Do Dark Pools Damage Market Quality and Fairness?

Cite this