Journal article
Regulating dark trading: Order flow segmentation and market quality
C Comerton-Forde, K Malinova, A Park
Journal of Financial Economics | ELSEVIER SCIENCE SA | Published : 2018
Abstract
We examine the impact of a rule in the Canadian equities market that requires dark orders to offer price improvement over displayed orders. We show that this rule eliminated intermediation of retail orders in the dark and shifted retail orders onto the lit market with the lowest trading fee. Intermediaries shifted liquidity supply to this market leading to increased displayed liquidity. We conclude that reducing retail order segmentation enhances lit liquidity. Despite the improvement in liquidity, retail traders receive less price improvement. Retail brokers pay higher trading fees to exchanges, and high-frequency traders earn higher revenues from trading fees.
Related Projects (1)
Grants
Awarded by Social Sciences and Humanities Research Council of Canada
Funding Acknowledgements
This paper is based on the research report titled "The Impact of the Dark Trading Rules" that we prepared for the Investment Industry Regulatory Organization of Canada (IIROC). We thank IIROC for providing access to the data and for financial assistance and, in particular Victoria Pinnington and Helen Hogarth for assistance. We also thank Qizheng (Alan) Yuan for research assistance. We thank SIRCA for providing access to the Thomson Reuters Tick History data. We thank the editor (Bill Schwert), the referee (Ingrid Werner), Peter Bossaerts, Carole Gresse, Patrik Sandas, Vincent van Kervel, Haoxiang Zhu, participants at the 2015 University of Cambridge Workshop on Microstructure Theory and Application, the Stern Microstructure Meeting 2015, the Seventh Erasmus Liquidity Conference, the Women in Microstructure Meeting 2015, the IIROC High-Frequency Trading Forum, the 2016 European Finance Association meetings, and seminar participants at ESSEC Business School, University of Auckland, Deakin University, HEC Montreal, New Economic School, Stockholm Business School, University of Illinois at Chicago. University of Copenhagen, and Warwick University. Carole Comerton-Forde is an economic consultant on market structure for the Australian Securities and Investments Commission. Andreas Park is a member of the Ontario Security Commission's Market Structure Advisory Committee. This work was done when Carole Comerton-Forde was at the University of Melbourne. Part of this work was done while Katya Malinova and Andreas Park visited Copenhagen Business School (CBS), and they thank CBS for its hospitality. Support from the Center for Financial Frictions (FRIC), grant no. DNRF102, Nordea Fonden, Social Sciences and Humanities Research Council, and the Global Risk Institute for the project "Risk Management and Market Liquidity" is gratefully acknowledged.