24 July 2013

FN: Dark pool call to transform corporate bond trading

European buyside traders have called for a fresh approach to corporate bond trading to ease the problems of liquidity which the market is expected to face when new regulations come in for fixed income next year.

New rules from Basel will fundamentally alter the way bonds are traded by demanding that banks hold capital on their balance sheets that reflects the risk of their bonds. A lack of post-trade transparency makes it difficult to state the impact in Europe, but traders have indicated a similar slump is occurring. Corporate bonds have been hardest hit and sovereign bonds could well be affected once central banks’ buying intervention fades.

Currently, most institutional trading in corporate bonds is conducted over the counter. Buyside traders phone banks and brokers to request buy and sell prices for the instruments they want to trade, before selecting their preferred execution partner. This model requires sellside firms to hold an inventory of bonds on their books, which they use to act as an immediate buyer or seller for client orders. But the slew of post-crisis regulation, which aims to boost transparency and ensure banks are adequately capitalised, is challenging this traditional trading model.

Anita Karppi, managing director at K&K Global Consulting, which hosts the ATF, said buyside traders at the last forum – including Sanders, Robinson and Chatillon – discussed how an anonymous trading platform, or dark pool, could improve access to liquidity. She said: “For a dark pool to succeed in fixed income, the buyside will need to make a concerted effort to pool liquidity into a small number of carefully selected venues. Any platform provider committed to serve the buyside needs to consider the increasing requirement to provide evidence of best execution and an analysis of transaction costs.”

Unlike dark pools for equities, which continue to grow and are currently in the regulatory spotlight across the globe, buyside participants at the ATF said the ideal trading venue for corporate bonds should be accessible by both the buyside and sellside.

This model would allow both types of participant to find matches for their orders without revealing their intentions to the market, which is particularly important for an institutional bond market that is characterised by large trades needing to be shielded from the glare of other market players.

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