July 06, 2012

U.S. consumers were sickened by reports earlier this year that nearly 70 percent of the ground beef consumed in this country contains pink slime - mechanically processed meat that's used as filler to reduce its overall fat content.

So what does that have to do with the U.S. capital markets? On the heels of the New York Stock Exchange receiving SEC approval to start a Retail Liquidity Program, which is a type of dark pool for individual investors, Tabb Group analyst Adam Sussman says the challenge the beef industry is now facing with the American public is comparable to the problems with market structure in the U.S. He points out that the prime cuts of U.S. equity liquidity are often stripped away and routed to, or executed within, dark pools and internalization engines, leaving pink slime - or liquidity exhaust for the public markets.

In both cases - be it the production of beef or the trading of securities - the public is left in the dark about how the product is put together, repackaged and sold to consumers.

From Tabb Forum:

The upcoming Securities and Exchange Commission vote on the proposed RLP program (it passed .) is symptomatic of the challenges facing the industry participants. The level playing field that the exchanges provide has unfortunately become the lowest common denominator as competing venues strip away the more desirable cuts of liquidity. RLP is a natural response to try and recapture some of the more valuable liquidity.

Whether it delivers slightly better execution quality or not, the average investor will not be in any better position to understand what happens to his or her order and why that matters. What would make a difference is more labeling and disclosure about order handling and brokerage revenues. Rules 605 and 606 were a good start but are insufficient given the subsequent complexity of U.S. equity market structure.

Many industries break a product down, repackage certain cuts and distribute those cuts to the client segments willing to pay. Liquidity is an admittedly different beast from a cow but the economics of supply and demand are largely universal. Whoever can figure out how to cleverly package less desirable components and generate demand stands a good chance of making money. A quick search reveals a handful of truly awful ideas along these lines.

ABOUT THE AUTHOR
As the Senior Editor of Advanced Trading, Justin Grant plays a key role in steering the magazine's coverage of the latest issues affecting the buy-side trading community. Since joining Advanced ...