The nature of the game as it is played is such that the public should realize that the truth cannot be told by the few who know — Reminisces of A Stock Operator by Edwin Lefèvre
Anybody who has been to any kind of betting venue i.e. a horse race, a casino or even online betting understands information asymmetry and control of emotions. Both of these define what is known as “Risk Intelligence” or making better estimates of probability than the average Joe. Daniel Kahneman and Amos Tversky have dedicated a large body of work to human decision making. They found out, not surprisingly, that most of us are bad at predicting probabilities. Now, think of a similar situation where institutional investors offload millions of shares on a public exchange and the volatility that those trades would create. Combine that with limited self control and limited ability to forecast odds and you realize the need for an alternate market system. Dark Pools are one such alternative platform. Today, there are roughly 40 dark pools in the US which account for 15% of equity trading.This article provides a basic understanding of dark pools for educational purposes only.
The word ‘Dark Pools’ conjure images of nefarious activities. In truth, the word ‘Dark’ is used to signal the limited visibility into the dealings of ‘Dark Pools’. A Dark Pool is an alternate private market to the public stock exchanges like NYSE, NASDAQ and so on. It is primarily useful to institutional investors to put block trades and to discover a better price for their trades. They are exclusive clubs and private trading platforms.
The Need For Dark Pools
The very first stock exchange in Asia was the Bombay Stock Exchange (BSE) which was established in 1875. It slowly moved from being a gathering of traders under a Banyan tree to an open outcry exchange floor where brokers (licensed dealers) would call out their orders. Also called the…