NEW YORK (Reuters) - Government bonds around the world have become harder to buy and sell, resulting in higher costs and lower trading volume, according to a Barclays report released on Wednesday.
Tougher regulations in response to the global credit crisis has reduced the willingness of bond dealers to take on large blocks of U.S. Treasuries and other sovereign debt from their customers.
The drop in liquidity and crowded trades or “herding” among big investors scrambling for returns in a protracted low interest rate, have contributed to bouts of extreme market swings such as one seen last October, Barclays analysts said in the report.
“Given that many of the post-crisis regulatory changes are here to stay, and with regulator buy-in for the changes in market structure thus far, we do not expect the growing illiquidity trends in government bond markets to reverse,” they wrote.
Barclays analysts said turnover of cash sovereign bonds between dealers and customers have fallen sharply from their pre-crisis levels.
They defined turnover as the monthly cash trading volume between dealers and customers as a percent of a country’s sovereign outstanding debt less central bank’s holding.
In the U.S. Treasuries market, the turnover is now over 0.6 time in a month versus 2 times in 2006.
For German Bunds, the turnover has fallen to 0.4 time from 0.7 time.
British Gilts’ turnover has declined to 0.75 time, half what it was back in 2006, according to Barclays. Turnovers in government bond futures, on the other hand, have not changed much.
There is evidence, Barclays analysts say, the drop in government bond liquidity has driven up transaction cost, resulting in investors to demand higher liquidity premium.
Higher transaction cost stems from less activity in repurchase agreement (repo) markets where dealers often use government bonds as collateral to raise cash to fund their positions, the analysts said.
Lower repo trading results in less demand for cash Treasuries, Bunds and Gilts, and diminishes overall liquidity for these bonds.
Since September 2013, the liquidity premium on 10-year Gilts has risen by 18 basis points, the most among major sovereign debt Barclays analysts tracked.
The liquidity premium on 10-year Treasuries has increased by 13 basis points and 10-year Bunds by 6 basis points.
On the other hand, Barclays analysts said liquidity premiums on Italian, French and Spanish government debt have fallen due partly to the European Central Bank’s 1.1 trillion euro bond purchase program.
Reporting by Richard Leong; Editing by Bernard Orr