Editor’s Letter – October 2015

Issue 108

HAMLIN LOVELL

Concerns about deteriorating liquidity in fixed-income markets, may have jolted the SEC into making some prescriptive proposals for mutual-fund liquidity risk management, which would include categorizing funds’ holdings into six liquidity buckets. The SEC’s aims include avoiding asset/liability mismatches. Different funds and managers could categorize the same instrument in different liquidity buckets, due to position sizes and varying access to liquidity.

Diverse fixed-income market microstructure can make it tricky to get comprehensive data on trading volumes. Even in the US, not all fixed-income securities are eligible for FINRA’s Trade Reporting and Compliance Engine (TRACE). Nor do services such as TRAX provide comprehensive coverage in Europe, which has no centralized repository for trade reporting in cash markets (EMIR covers derivatives). Centralized exchanges currently account for a tiny percentage of fixed-income trading; many including EUREX, Euronext, LSE, Singapore exchange, and Swiss Exchange set up separate platforms for trading bonds.

At least 18 electronic trading platforms (ETPs) for European cash bonds are identified in The ICMA Electronic Platform Mapping Study, which ICMA (The International Capital Market Association) intends to regularly update.

Most of the platforms are dealer-to-dealer (D2D), (e.g., BGC Trader, Brokertec, Dealerweb, Eurex Bonds, MTS Cash, SIX Corporate Bonds, Tradition (TRADe)); some are dealer-to-client (D2C) (e.g., B2SCAN, MTS Bondvision, Tradeweb); at least one is a client-to-client (C2C) matching system that disintermediates dealers (Liquidnet Fixed Income); while the most democratic are all-to-all (A2A) (e.g., Euronext BondMatch, Euronext RM, EuroLTX, Trading Screen (Galaxy), TradingScreen (TradeCross)). Some platforms are wholly anonymous, others are entirely lit, and some combine elements of both. Their regulatory status will, by 2017, include Regulated Markets, Multilateral Trading Facilities (MTFs), Organized Trading Facilities (OTFs) and Systematic Internalizers. The platforms operate on different models, with the traditional request for quote (RFQ), and market-making, complemented by cross-matching, auctions, and central limit order books (CLOB). And away from ETPs much bond trading remains voice-based amongst multiple dealers. All of this means that the data is widely dispersed amongst numerous dealers, clients and venues.

In this fragmented marketplace, non-execution platforms are sought after as information providers. Algomi, AxeTrader, HSBC CreditPlace and Neptune supply market intelligence illuminating the location of potential buyers and sellers. Asset managers weigh the costs of obtaining wider market access and information against the benefits of getting better liquidity. Multiple participants access markedly different liquidity in the same instrument. Accurately indicating funds’ liquidity could be a messy exercise, even before new players enter the fixed income arena.

New liquidity providers were the topic of the keynote delivered by Citadel Securities at the WBR Research Fixed Income Leaders Summit, held in Barcelona in October 2015. Back in the year 2000, 92 fixed-income trading platforms sprung up, most of which no longer exist. Some of today’s new entrants may not survive. But the ecosystem of fixed income trading is in a state of flux that may make liquidity measures very fund-specific and not uniform.