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UPDATE 1-CBOE chief says fewer 'dark' trades would benefit markets

(Updates with CEO and analyst comments)

CHICAGO, May 6 (Reuters) - The quality of U.S. stock markets will improve if regulators limit trading that happens outside of exchanges, the head of CBOE Holdings Inc said on Tuesday after the company reported higher-than-expected quarterly earnings.

The comments from CEO Ed Tilly, who runs the largest U.S. stock-options market, put more attention on the role of so-called dark pools after Terrence Duffy, executive chairman of futures exchange-operator CME Group Inc, last week said that regulators should look into dark markets.

Around 40 percent of all U.S. stock trades, including almost all orders from "mom and pop" investors, now happen "off exchange," up from around 16 percent six years ago. Increased liquidity and trading volumes on exchanges could tighten bid/ask spreads.

Dark pools and high-frequency trading have come under scrutiny in the past month following the release of Michael Lewis' book "Flash Boys: A Wall Street Revolt," which says the U.S. stock market is rigged.

Trading volumes at CBOE, which runs the Chicago Board Options Exchange and CBOE Futures Exchange, could increase if regulations drove more trading on to stock exchanges from dark pools, Tilly said. He declined to estimate how much of CBOE's volume comes from high-frequency trading, noting that the industry did not have a clear definition of the practice.

"The options market does not cater to high-frequency trading practices described in the Lewis book," Tilly said.

Stock prices for exchanges and brokerage firms have come under pressure amid uncertainty about the outlook for new regulations targeted at high-frequency trading. Any financial impact on CBOE would not be material, Tilly said.

CBOE shares at midday were down 1.5 percent little on Tuesday but were up 0.8 percent this year. Shares of exchange-operators CME Group Inc and IntercontinentalExchange Group are each down about 11 percent this year.

CBOE said first-quarter net income rose to $48.5 million, or 56 cents per share, from $41.8 million, or 48 cents, a year earlier. Adjusted earnings were 58 cents per share, beating analysts' estimates of 56 cents, according to Thomson Reuters I/B/E/S. Operating revenue was $157.9 million, up from $142.7 million a year earlier and above estimates of $156.9 million.

Trading volume in the quarter was 342.8 million contracts, or 5.62 million contracts per day, up from 262 million contracts, or 4.37 million contracts per day, a year earlier. Average daily options and futures volume in April was 5.1 million contracts, up 9 percent from a year earlier.

"There is some downside risk to near-term earnings, as volumes have not been particularly strong to start the 2Q despite CBOE maintaining market share," UBS analyst Alex Kramm said.

(Reporting by Tom Polansek; Editing by Jeffrey Benkoe and Alden Bentley)

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