A Gathering in Boston

A flurry of stories over the past week have reported (including this one in the FT) on an interesting meeting recently held in Boston that was attended by leading buy-side and sell-side market participants. The meeting apparently focused on liquidity and electronic trading in the bond markets.

“But, oddly, participants at last month’s meeting in Boston were not especially gung-ho about electronic trading. Some of the largest asset managers do not believe that transparency is automatically their friend. If they want to shift a big block of bonds, a skilful dealer might be able to do it without moving the market. This is more difficult if you’re sending an order electronically for the world to see.

Unlike equities, debt instruments are not homogenous. There is not always a ready market with buyers and sellers. Banks, as responsible (and often reluctant) market makers will take an asset and hold it for some time.”

Now, as noted, the meeting was about bonds, and not OTC derivatives, and most of it does not concern us. But the parallels between some of the issues faced by both markets are strikingly familiar.

What are those parallels?

The buy-side – asset managers and others – want and need flexibility in executing their transactions. This usually means ensuring they have the right combination of price, speed and anonymity, depending on the particular firm and the particular transaction. The market-making function of banks provides this flexibility. Restrictions that would limit either the ability of firms to receive or the ability of market-makers to provide that flexibility are a real cause for concern for all market participants.

As we have stated, and shown in previous research, the OTC derivatives markets are very price competitive and dealers play an important market-making role in them. Derivatives users have access to prices from a variety of dealers in a variety of ways. Proposed changes to a system that works – and works well – need to do more than preserve the status quo (or why do them in the first place); they need to add incremental value.

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