Aug 9 (IFR) - Banks and investors are losing hope that the
US corporate bond market will ever have the thriving electronic
trading system seen in stocks, despite years of efforts on both
sides to build interest in doing business electronically.
According to experts, the e-trading systems developed in the
last few years have not managed to expand overall liquidity in
the market - which is the main aim in creating such a network.
"If you look at the last few years, the corporate bond
market has grown from US$6trn to US$9trn, said Rick McVey, CEO
of MarketAxess, which is the biggest electronic trading
platform, with about 14% share of all daily trading volume in US
investment grade corporate bonds.
"But TRACE volume has remained flat," he said, referring to
the system in which broker-dealers are obliged under SEC rules
to post OTC secondary market trades in fixed-income securities.
"That means the annual turnover of outstanding debt has been
falling," McVey said. "This is what we, investors and dealers
are all trying to solve."
A report by McKinsey & Company and Greenwich Associates this
week concluded the bond market just isn't made for equity-like
trading - and that bond trading might never develop much beyond
its current form.
"True electronic match-based trading, like that seen in cash
equities, remains a distant dream," said the report from the two
consultancies, which surveyed 117 market participants.
It said the corporate bond market was "unsuited" to
e-trading and could remain driven by sellside dealers, "in stark
contrast to the largely order-driven cash equities market."
Before the onset of the financial crisis, big firms like
BlackRock, Fidelity and bond giant Pimco were able to easily buy
and sell large blocks of bonds of US$25m or more in size.
But stricter regulations on risk, put in place after the
crisis, have made it prohibitively expensive for banks to buy
large chunks of their clients' bonds and then leave them on
their balance sheets until they can sell them.
Instead, investors are now forced to break up big block
trades into bite-sized pieces of just a few million so that the
Street can digest them.
That liquidity gap, in theory at least, created an opening
for electronic platforms that would allow more frequent - and
smaller - bond trades between investors.
So-called Request For Quote (RFQ) platforms like
MarketAxess, for example, help investors seek bond prices from
dealers online instead of having to phone them as has been the
custom for decades.
But many investors will only use RFQ platforms for certain
deals, saying they are wary of being exposed online. And because
such platforms are still largely beholden to dealers, they have
not been able to expand liquidity overall.
"They are great for very liquid on-the-run bonds that are
widely owned," said Frank Reda, director of trading at Taplin,
Canida and Habacht.
"But you will get killed if you put up [for sale] certain
illiquid bonds that you might be known as a buyer of in the
And Dexter Senft, co-head of fixed-income electronic trading
at Morgan Stanley, said one of his most important discoveries in
the past year was that bond investors largely didn't want to
trade directly with one another.
"They want to put out a request to buy or sell bonds, but
they don't feel comfortable being on the other side of that
request, like a dealer would," he told IFR.
"It comes as an unnatural act."
Morgan Stanley is just one of many firms - including
Goldman Sachs, BlackRock and UBS - that tried
to fill the gap by launching its own "single-dealer"
The idea was that investors could trade bonds with each
other anonymously. But few people involved in the development of
these expensive platforms - if any - understood how little
market appetite there is for that kind of investor-to-investor
For one thing, investors weren't keen on platforms run by
just one bank, or by one of their competitors.
"It was not obvious a year ago that single-dealer platforms
would not work," said MarketAxess's McVey.
The report from McKinsey and Greenwich spelled out exactly
who liked the single-dealer platforms: "Almost no one".
TIME TO AGGREGATE?
Now some big investor groups are kicking the tires
of technology like InterDealer's CreditStation, which aims to
pool the available liquidity of each participating e-trading
platform onto one screen.
Known as a "super-aggregator", this kind of hub would allow
everyone in the market - including dealers and investors signed
up to another e-trading platform - to meet in a central location
without the worry that the platform is under the control of an
Some in the market feel that this would be the most
effective way to make electronic bond trading a viable
"If the main client base says 'I want to go to this place of
aggregation, this is where we are piping into and you have to
get on the bandwagon', then the Street's going to do it," said
one senior executive at an asset management firm.
"Existing platforms don't lose by piping in because they
will still get paid for the trades they generate."
MarketAxess is keen to turn itself into the central hub of
activity by getting other single dealer platforms to follow
BlackRock's footsteps and hook up to it.
But it is not clear if competing platforms are ready to work
together - and that willingness is key to making such
centralized systems work.
In any event, it seems clear that thriving real-time
"click-and-trade" between investors - or even with their dealers
- is still some ways off.
"You need an all-to-all electronic trading platform that
aggregates liquidity and involves dealers as well as a broad
range of investor types," said Richie Prager, global head of
trading at BlackRock.
Prager admitted it had been difficult to go it alone with
BlackRock's invitation-only investor-to-investor trading system
- a system that is now partnered with MarketAxess - and that
broader changes in the market would take time.
"This will be more of an evolution than a revolution,"
Prager said. "It could take 10 years. Look at how long it took
equities to become electronic."