Exchange Market Share Set to Decline Due to Competition from Nimble Dark Pools and ECNs

Exchanges currently account for three-quarters of the U.S. market share for equities trade volume compared to 25 percent for alternative trading systems (ATSs). But competition from more-nimble and price-competitive electronic communications networks (ECNs) and dark pools threatens the exchanges’ dominant position, according to Boston-based Aite Group, which predicts that exchange market share will decline to 62 percent by the end of 2011.

In a new report, Aite points out that market fragmentation continues to increase as new ATSs enter an already overcrowded U.S. equities market. There are at least 35 potential execution venues for U.S. equities, according to Aite. Though most of the larger venues are connected, a growing segment of the execution market (i.e., dark pools) has been largely disconnected from the rest of the marketplace to date.

"A trader looking to get an order done in the U.S. equities market confronts a highly fragmented market," said Sang Lee, managing partner at Aite Group and author of the report, in a release. Despite the growth of ECNs, dark pools and other ATSs, however, over the long term, success will follow liquidity, he added, suggesting that the major exchanges, such as the NYSE Group and Nasdaq, will find a way to get a piece of the market share lost to ATSs.

"Market consolidation appears inevitable, driven by expected pricing compression and the natural migration of liquidity into three to four large players," Lee said. He predicts that many smaller players will simply go out of business and the few successful remaining ATSs likely will find themselves operating under the banners of the NYSE Group or Nasdaq.