Evolution and Survival in the European Bond Market

4 Feb

The European market for high risk premium, subordinated debt ballooned last year by 56 percent compared to 2012, with a net value of $123billion. Dealogic reported the impressive figures in December of last year.

Additionally, the capital raised by 32 new issuers was $14.7billion, 18 per cent higher than the value for 2012, which constituted the offerings of 30 new issuers. Part of this increase must be down to the improved and extended facilities offered to bond traders.

One is the BondMatch secondary trading forum initiated by Euronext, which has tight rules governing trading processes and matches bids and offers with a proprietary algorithm. Another is the Open Trading forum of MarketAxess, whose request for quote system connects an international chain of brokers, displaying all offers on one screen, and was credited with a record quarterly increase in trading volume.

The safeguards in place within BondMatch are not just requirements for Members to ensure the creditworthiness of their clients – and sustainability of their positions. They system itself prevents orders being carried out which are “clearly disproportionate in comparison to the liquidity of the Admitted Debt Security, evaluated on the basis of the market’s normal absorption capacity,” according to the Bondmatch trading manual.

It also bars block or distortionary trades, defined as “orders with a price which differs significantly from prevailing market prices”, or “which is obviously likely to trigger an excessive price swing or a reservation.”

Euronext claimed, in a mission statement, June 2010, ‘Euronext Paris SA’s response to the Expression of Needs expressed by the CASSIOPEE Committee’, that its pioneering platform was “designed to improve the liquidity of the secondary corporate bond market by being the first electronic corporate bond trading platform to offer international investors the possibility of trading firm orders with transparency obligations similar to those for regulated markets.”

Its proprietary algorithm ensures maximum continuity in pricing, as well as ensuring that the highest buy offers, and the lowest sell offers, take priority in order queues. This ‘execution priority principle’ is another factor lowering the risk of market manipulation, biased in the least likely direction of price distortion: traders are more likely to make bids that are too low than too generous.

data centre

There is a set formula, too, for the prices at the auctions at the opening and close of the trading day, which maximises efficiency of trades. Bids are placed in advance in the Central Order Book, and the auction price is that with the highest executable volume for each limit. If there is more than one limit with the top executable volume, the bid entailing the highest surplus volume is taken as the auction price.

Watch out for icebergs, though! Reserve orders, nicknamed ‘iceberg orders’, allow traders to conceal the true amount of bonds being released onto the market. Although the fake figure they give must not be greater than ten times the trading unit, this distinction will mean precisely peanuts to large institutional traders who have licence to dump over 100 corporate bonds onto the market. Some protection is given to buyers, in that reserve or iceberg orders cannot be stipulated to sell “at opening price”, or in an “all-or-none” order. And once the first package of, say, ten bond certificates out of 100 is sold, the remaining 90 (which is labelled as 10) goes to the bottom of the order queue.

The success of this approach is difficult to quantify, as Euronext releases its quarterly reports with aggregated figures from across its equity, debt and derivatives ventures. And its reporting has also been interrupted by the necessity of merging many of its operations with the InterContinental Exchange, as part of an acquisition deal finalised end of 2013.

For the third quarter of 2013, Euronext reported its European cash market share (value traded) in NYSE Euronext’s four core markets was 66% in quarter three, 2013; this was slightly reduced from 68% in quarter three of 2012; and also lower than the 67% it gained in the second quarter of 2013.

MarketAxess’ closest equivalent is the Open Trading forum for corporate; although it has considerable flexibility in type of additional bonds offered – ranging from emerging market, to domestic credit, to supras and covered bonds – all this must be conducted through what it claims, admittedly, is the “industry’s broadest, most robust network of global broker-dealers. In total its list comprises over 85 global, regional and specialist dealers, and in excess of 1,000 institutional investor firms.

As of April 2013, Open Trading entered a strategic partnership with BlackRock’s gargantuan, all-seeing risk management system Aladdin, which gives investors access to the global repository of information about the impact of extreme weather, financial or political events on securities’ risk profiles.

MarketAxess chairman and CEO Rick McKey attributed in large part the group’s 24.4% leap in fourth-quarter revenue to its Open Trading facility, citing “increased engagement from investors and dealers in our all-to-all trading protocols.”shaking hands on deal, skyscraper background

Of course, the firm also offers structured products, credit default and other types of swap, which can offer a lucrative commission for the issuer and the exchange hosting the trade. But pricing is more obtuse, and the swap derivatives require clearing by central counterparties, who approve the trade and can monitor collateral and margin posted.

However, the 14.9% increase in trading volume is that significant, its one-screen, instantaneous request-for-quote screen for high-grade, high-yield and emerging market bonds is no doubt to thank for its grabbing such a large slice of additional market share.


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