Assessing Bond Liquidity

Shanny Basar

The International Organization of Securities Commissions said it has not found evidence showing that liquidity in the secondary corporate bond markets  has substantially deteriorated.

Iosco said in a report that it did not find data showing that corporate bond liquidity between 2004 and 2015 has deteriorated markedly from historic norms for non-crisis periods. However, the majority of both buyside and sellside respondents to the Iosco survey perceive that market liquidity has decreased. “These perceptions were generally based on personal experience and not supported with data or data analysis,” said the study.

The conclusion of the Iosco report is the opposite to a recent study by the Financial Conduct Authority, the UK regulator. The FCA said last month in a report on UK corporate bond liquidity that since mid-2014 some firms have experienced an increase in the amount of failed or rejected trades, an increase in the amount of time it takes to fill an order, a decline in dealer quote rates on electronic bond trading platforms, and a slight widening of some quoted and effective bid-ask spreads.

“Taken together, this indicates that trading conditions have become somewhat more difficult over the past 18-24 months,” added the FCA. “However, overall the evidence indicates liquidity is still relatively healthy compared with the entire 2008-2016 period.”

In addition Niall Bohan, Head of Unit, Capital Markets Union at the European Commission also said last month that the commission has acknowledged that the cumulative affect of regulation has affected liquidity in the corporate bond market and could take further action to address the issue.

The European Commission created a 17-member expert group to review corporate bond market liquidity under the action plan for a Capital Markets Union in the region. Bohan said the expert group will make public recommendations by September and the Commission will then decide whether to accept the advice by the end of this year.

Bohan added: “However, regulators introduced rules such as the leverage ratio and the review of the trading book to deliberately derisk parts of financial system so you should not expect the clock to be turned back.”

Iosco published the report, Examination of Liquidity of the Secondary Corporate Bond Markets, following responses to its consultation report which was published last August.

“The primary challenge facing Iosco during its fact-finding work was a lack of useful data on the trading of corporate bonds on the secondary market in different jurisdictions, largely because most bonds are traded through decentralized, dealer-intermediated over the counter markets,” added the report. “Iosco found it particularly challenging to analyze information due to data gaps and differences in collection methods and the scope, quality and consistency of data across different jurisdictions.”

The report concluded that regulators should have access to timely, accurate and detailed information on secondary bond markets to be able to assess adequately changes in these markets, monitor trends in trading, and respond accordingly. Therefore, Iosco is going to examine transparency regimes and regulatory requirements in place in Iosco member jurisdictions.

In their responses to the Iosco survey, some buyside participants reported an increase in bond liquidity, while 68% reported a perceived deterioration of liquidity from 2004 – 2015. From the sellside, 80% reported a perceived decrease in liquidity.

The FCA report found that the quote rate from dealers has declined from 60% several years ago to 52% by mid-2016 which could imply dealers are now less willing or able to provide quotes to clients.

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