ICMA Warns On Bond-Trading Suspensions

Shanny Basar

The International Capital Market Association has warned that new regulations allowing a blanket suspension of trading in debt instruments or related derivatives could be damaging to orderly functioning of the market.

MiFID II, which went live in the European Union this year, requires a regulated venue or market that suspends or removes a financial instrument or a related derivative from trading to make this decision public and notify its national regulator. Then, the national regulator has to enforce this action on other regulated markets, MiFID II venues and systematic internalisers under its jurisdiction. The relevant regulator then also has to inform the European Securities and Markets Authority and regulators in the other EU member states.

ICMA’s position paper said there are circumstances where the continued ability to trade suspended bonds in the over-the-counter market will be in the best interest of investors and the orderly functioning of the market.

“In these cases, the key source of liquidity is likely to come from specialist market-makers for the relevant instruments, who may also be SIs,” added ICMA.

The trade body said the rules relating to trading suspensions seem to be related to the equity market as they include references to market abuse, take-over bids, and nondisclosure of inside information. The paper said trading should continue in a typical credit scenario such as a bankruptcy and subsequent debt restructuring.

“The equity may very well drop to zero, and so be suspended or removed from trading on the relevant regulated market or trading venue,” said ICMA. “However, the debt, even in default, will continue to trade, often actively.”

As bondholders’ rights generally take precedence over shareholders, they will often share a court ordered distribution of any remaining assets of the debtor. Therefore, institutional investors will have a fiduciary duty to unwind any exposure to the relevant credit, or to hedge their exposure, at or near the time of default and need to access liquidity for either the bond or related derivatives, most likely via SIs.

The paper gave the example of the controversial debt restructuring of Portugal’s Novo Banco in 2017 where bonds were suspended from trading between 31 March and 20 October.

ICMA said: “Had this occurred post-MiFID II, the consequences could have been highly detrimental for Novo Banco creditors and depositors. While the volumes of Novo Banco bonds traded on the Luxembourg Stock Exchange would have been negligible, the volumes traded by investors through market-makers (which would be classified as SIs) going into the liability management exercise process increased significantly, running into multiples of billions.”

As a result Novo Banco would have been forced to enter into resolution and liquidation. Instead, last month Novo Banco completed its first bond sale since 2015.

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