As bond-market liquidity remains challenged, institutional buy-side market participants are increasingly turning to electronic platforms to find the other side of trades.
Even the biggest advocates acknowledge that screen trading is not a panacea for the market's liquidity gaps, but it is a viable piece of the puzzle.
Enrico Bruni, head of Europe and Asia at Tradeweb Markets, told Markets Media that 413 buy-side firms have used the axe functionality this year for European corporate and government bonds. Axes highlight prices or indications from market makers to buy or sell specific bonds, allowing investors to use the information when requesting quotes from dealers. The displayed axes can be directly integrated into an order management or pricing system.
Tradeweb data shows that when requests for quotes are sent to axed liquidity providers, there is a meaningful improvement in pricing, especially for credit trades larger than €2m and government bond trades greater than €10m.
The volume of axed, euro-denominated credit trading has more than doubled in comparison to non-axed trading, and volume of axed government bonds has also increased significantly since the axe functionality was launched in March last year according to Tradeweb, although the firm did not provide volume numbers. The Desk’s Trading Intentions Survey for 2015 found that the leading platforms used by the buy-side were Bloomberg, MarketAxess and Tradeweb who racked up comparable levels of users/major users.
Enrico Bruni, Tradeweb Markets
Bruni said: “Electronic markets are enabling more effective and efficient execution, and the growing use of axes on our platform clearly reflects that trend.”
This week the Bank for International Settlements highlighted the risk of declining liquidity in fixed income as banks have become less willing to use their balance sheets to make markets. On 1 July Governor Lael Brainard of the US Federal Reverse said in a speech at the Salzburg Global Forum on Finance in a Changing World that recent events suggest a deterioration in the resilience of market liquidity, although statistical evidence is hard to find.
“On the morning of October 15, 2014, 10-year U.S. Treasury yields gyrated wildly, and the intraday movement in Treasury prices was six standard deviations above the mean,” added Brainard. “A few weeks later, markets experienced some very large intraday movements in the price of German bunds during times of little market news.”
Regulation has been cited as contributory factor to declining liquidity but Brainard argued that not all broker-dealer inventories are used for market-making and the inventories were declining before the Dodd-Frank Act was passed. Brainard suggested that a second possible contributor may be the growing role of electronic execution of trades across equity, Treasury, and foreign exchange markets and the associated increasing role of high-frequency trading, and this is an important area for future research.
“This consideration would be most relevant in the markets that are amenable to high-frequency trading, and automated trading more generally, where assets are fairly standardized, such as equities and U.S. Treasury securities, and less relevant in markets where securities are more idiosyncratic, such as corporate bonds,” he added.
Brainard also highlighted other possible factors causing liquidity to fall including changes in risk management since the financial crisis and the increased role of asset managers.
“Because the large increase in bond fund holdings is relatively recent, little is known about how these funds will react to periods of market stress or to abrupt changes in financial conditions and the adequacy of their liquidity buffers for such situations,” added Brainard. “Because funds potentially allow daily redemptions even against illiquid assets, it is possible that redemptions could be magnified in stressed conditions as individuals try to redeem early, which in turn could lead to liquidations of relatively less liquid assets, thereby amplifying price volatility and reducing market liquidity.”
The proposed MiFID II regulations, covering financial markets in Europe, may set rules for bond trading which are based on a measure of liquidity, although this has not yet been defined.
“At present, it’s not clear what the final MiFID/MiFIR rules will look like as they’re still being defined,” added Bruni. “This makes it difficult to foresee if and/or how the new requirements will impact the axe functionality. We’re paying close attention, however, and would make adjustments if necessary.”
Featured image via /Dollar Photo Club
