A breakdown in the consensus over market structure has left investors confused in conditions of “near savagery” as they scour the margins for advantage, according to California-based Jones Trading.
In a note published this week, managing director Tom Carter compared the market to the frog in so-called boiling frog syndrome, dying because it fails to notice incremental increases in water temperature. “The water and the pot are the current market structure. The frog at this point is virtually any market participant,” he said.
Incremental shifts identified by Carter include declining confidence in equity markets, the end of penny spreads, the rise of high-frequency trading, fragmentation of trading venues, the decline in activity from traditional dealers increasingly unwilling to take on risk. The result had been “drift arbitrage”.
Specifically, Carter said the market needed to re-centralise investor interests – or otherwise to identify which participants the market was meant to serve.
“It is almost impossible to define [who] at this point is advantaged in the current market structure, or whose interest the market is fundamentally designed to serve, despite the lip service paid to investors,” he said. “They have voted with their asset allocations.”
Carter claimed the maker/taker model, for example, had been “designed to advantage parties other than investors” in a war of all against all between investors, exchanges, regulators, and legislators.
Meanwhile, he urged regulators to refocus their efforts on market structure rather than focusing on “granular” issues such as wash spreads in high-frequency trading and nickel trades.
“The current problems have occurred because each separate change to the market was seen as an incremental rather than an industry-wide development. But the net effect has been to render markets far less robust than they have been in the past,” he said.
“What seems to be lacking is the ability to generate a conversation on anything other than on an incremental basis, rather than looking at the entire market structure. It is this incrementalism, and the passive acceptance of it, that slowly is increasing the water temperature without reaction from market participants.”