What is Dark Pool?

Dark pools were created to address a fundamental problem: when a large institutional investor wants to buy or sell millions of shares, displaying that order on a public exchange would immediately move the price against them. If a pension fund shows a 5 million share buy order, other traders would buy ahead of it, driving the price up before the order is filled.

Dark pools account for approximately 30-40% of all U.S. equity trading volume. Major dark pools include Crossfinder (Credit Suisse), Sigma X (Goldman Sachs), and IEX (the exchange featured in Michael Lewis's Flash Boys). Trades execute at prices derived from public exchange quotes, typically at the midpoint of the bid-ask spread.

The benefits of dark pools include reduced market impact for large orders, potential price improvement (executing between the bid and ask), and lower transaction costs for institutional investors. These savings ultimately benefit the end investors in pension funds and mutual funds.

Critics argue that dark pools reduce transparency, create a two-tiered market that disadvantages retail investors, and allow potential conflicts of interest when broker-dealers route orders to their own dark pools. The SEC has increased oversight, requiring more disclosure and investigating practices like latency arbitrage within dark pools.