The term dark pool refers to private markets that are accessible to institutional investors, where they can buy and sell large quantities of stocks without need to state any reference, specifically you don’t know buy and seller. “Dark” connotation should make you think of something unclear and non-transparent, as something that is done without other players in the financial market being aware of it, as mentioned above the market’s protagonist are mainly institutional investors and high-frequency traders (I will make some post next time).
A pro of the dark pool is the possibility for example of a large investment fund to operate in the market without triggering price movements , avoiding that the stock can rise due to the increase in supply, the advantages are basically 3:
anonymous financial transaction, low trading costs, low market impact
This phenomenon of dark pool begin in 90s and then increase until our days , according to research by FINRA ,(authorized by Congress to protect American investors, which aims to supervise brokers in the financial markets , analyzing the billions of daily exchanges www.finra.org) more than 40% of the trades take place on dark pools, some business banks have been fined due to the lack of transparency towards their customers. Dark pool’s data, as mentioned before are anonymous, in fact large investors do not disclose their commercial intentions before executing the order to market , these details are released in a delayed manner.
If the amount of trade in dark pools is constantly increasing it means that large investors make huge profits, for example if a retail investor buys shares in an “x” company and at the same time the “y” fund sells 10% of shares of the company “x” when it comes out the news of the transaction, the small investor will suffer a loss. Another element to note is ,when dark pool customer orders become prey to high-frequency traders who employ strategies such as “pinging” to discover large orders and consequently anticipate them on speed’s execution.
To this mode of trading I want to add the Crossing Network that is an evolution of dark trading that allows traders to hide orders from the trading book. Among the most important platforms we find Bondvision and Tradeweb that allow to mask liquidity to all other players in the market (see article Orders Icerberg) with the aim of creating speculative strategies without other participants being able to take countermeasures.
Dark pools in 10 years have had significant growth, in 2011 the value was 1.40% of trade, in 2015 3.80%, in 2019 5.50%. In 2021 we reached 6% of the volumes traded.
Institutional investors use dark pools to split orders, imagine how much a billion-dollar order could impact the market on Tesla?
To avoid this problem, large investors buy smaller sizes and distribute them on different platforms that are not accessible to most market participants.
Mifid2 in Europe (Market in Financial instruments directive) has reduced this type of operation with stricter rules, trading cannot exceed 4% of trade on traditional markets while on the dark pool market they cannot exceed 8%. The results are also not decisive because many institutional investors to avoid these rules operate from the UK which is a much less regulated market than the European one.
I am aware of dealing with a little particular topics, maybe many users have heard about dark pools or high-frequency trading but I guarantee that it is a complex world to understand.