Dark Trading at the Midpoint: Does SEC Enforcement Policy Encourage Stale Quote Arbitrage?

Prevailing research posits that liquidity providers bypass long queue lines on exchanges by offering liquidity in dark venues with de minimis sub-penny price improvement, thus exploiting an exception to the penny quote rule. We show that (a) the SEC enforces the quote rule to prevent sub-penny queue-jumping in dark pools unless trades are “pegged” to the NBBO midpoint and (b) the documented increase in dark trading due to investor queue-jumping stems from increased midpoint trading. Although encouraging pegged orders can subject traders to stale quote arbitrage, we show it could have affected no more than 5% of our sample midpoint trades.