An Empirical Analysis of Market Segmentation on US Equity Markets

We examine the impact of trading on markets partially exempt from National Market System requirements (dark venues) on equity-market quality. We find evidence consistent with the notion that dark venues rely on their special features to segregate order flow based on asymmetric information risk, which results in their transactions being less informed and contributing less to price discovery on the consolidated market. Except for the execution of large transactions and trading in small stocks, the effects of dark-venue order segmentation are damaging to overall market quality. Our results have important implications for the regulation of international equity markets.