Bond Trading Patchwork to Persist

Terry Flanagan

In corporate bonds, liquidity sourcing can be likened to a patchwork quilt, with the fabric made up of traditional voice brokers interwoven with newer electronic platforms offering multiple diverse trading models.

Years from now, the quilt may be neatened and folded with some extraneous edges snipped off, but the market’s intrinsic patchwork will remain.

That assessment comes directly from the buy-side end users of trading platforms, without whom the space wouldn’t exist.

“The biggest misconception is that one protocol or venue will emerge victorious,” said Mike Nappi, senior fixed income trader at Boston-based Eaton Vance, which manages $308 billion.

There are a few dozen electronic trading platforms, most of which launched over the past half-decade. Each platform operator touts its mousetrap as best, but the structure of the market is such that even the smartest, savviest, best-funded players may find their market-share ceiling to be a bit lower than hoped.

“There will always be a place for the voice market, whether dealer balance sheets are shrinking or not. That simply is not going away,” Nappi told Markets Media. “There will be consolidation amongst platforms that do that same thing, or use the same trading models. For example, the market doesn’t need a dozen dark pools in fixed income, and it certainly doesn’t need any new entrants to the RFQ market,” he said, referring to request for quote, the long-time trading-protocol workhorse..

“However, the market is big enough for a small handful of platforms to be in the rotation along with voice,” he added.

 Mike Nappi, Eaton Vance

Mike Nappi, Eaton Vance

To date, electronic trading platforms have proven most useful in matching smaller orders, whether retail or ‘odd lot’ institutional. Platforms have yet to convince buy-side desks that they can handle the heavy lifting, i.e. the block-sized purchases and sales that need the most finesse and discretion.

“Corporate bond trading platforms help by providing bids/offers on small-sized trades,” said a senior fixed income trader at a large buy-side institution, who spoke on condition of anonymity. “Brokers don’t really want you calling them to get a bid or offer on $10,000 bonds. Electronic trading is great for that.”

Also, platforms “sometimes identify brokers that are long or short a security you are trying to trade and otherwise you would not have known that a given broker was positioned to help you,” this trader said. “Platforms fall short in doing larger trades or high yield trades. Brokers do not want to show their directions on an electronic platform.”

The buy side is generally slow to adapt to change, as it is said that learning about and understanding market structure evolution can be its own full-time job on top of the full-time job of trading and investing. For this reason, even the best electronic platform, with the most brilliant trading model, will need patience. “We have not dug super deep” into the more recently launched platforms, the buy-side trader said. “We prefer to do our bigger trades one-on-one with a broker to show that we value them.”

Nappi said electronic platforms can fall short for bond trades that need more attention, which generally are the less liquid issues. “However, trading these types of securities via voice is by no means a guarantee,” he said.

“We are not shy with onboarding multiple platforms. I want our traders to have as many tools as possible,” Nappi said. “In the end it is more about trading protocols than a particular platform. Right now, RFQ is still the dominant player in the space. This type of trading can be done via an electronic platform, but it can also be done using basic messaging functionality as well as the phone.”

“The e-platforms that will succeed will not only address liquidity, but technology,” Nappi continued. “In many cases it is just a matter of finding and matching buyers and sellers, which can be much more difficult than it sounds. Going forward traders will still have to worry about finding best price, but where they decide to trade first may have a significant impact on the price they trade bonds.”

Featured image by vvoe/Adobe Stock

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