Wall Street is entering a dark age with most stock trading hidden

(Bloomberg) — Here’s a surprising new fact about the world’s largest and most liquid public stock market: Most of the activity in it isn’t public anymore.

Most read from Bloomberg

For the first time ever, the majority of trading in U.S. stocks now consistently takes place outside the country’s exchanges, according to data compiled by Bloomberg.

This over-the-counter activity — which occurs internally at larger companies or on alternative platforms known as dark pools — is on track to hit a record 51.8% of trading volume in January. Barring an unexpected decline, this would be the fifth straight monthly record, and the third straight month in which hidden trades accounted for more than half of total volume.

In other words, the shift appears to be “evolving into a long-term and likely permanent trend at that time,” Anna Ziotis Kurzrock, head of market structure at Jefferies, wrote in a note to clients this month.

Over-the-counter trading has been a growing feature on Wall Street for years, but until now public venues including the New York Stock Exchange and Nasdaq have retained overall dominance of market activity. This is important because exchanges display the prices that most participants use to price stocks.

The shift toward over-the-counter trading is the culmination of a years-long trend, which if it continues could eventually have implications for how the market works, according to Larry Tabb, head of market structure at Bloomberg Intelligence.

“In theory, the higher the volume of over-the-counter trading, the fewer competing orders there will be on the exchange to determine the best prices,” he said. “This means that on- and off-exchange prices may get worse.”

The Securities and Exchange Commission in recent years has taken steps to try to drive more activity on the stock exchange by revamping the market structure. Of the four proposals put forward by the SEC, only two rules — modifying the way stocks are priced and on- and off-exchange trades are executed — were ultimately passed.

For now, the threat to market efficiency remains a distant concern, with 48.2% of trades in January still taking place on the stock exchange. Instead, change is perhaps more useful as an indicator of the evolving market landscape.

Jefferies’ Kurzrock notes that the rise in over-the-counter activity corresponds with increased volumes of stocks worth less than $1, which are typically traded by retail investors. This makes sense, since this business is often handled internally by market-making giants like Citadel Securities and Virtu Financial.

The story continues