Stringent Mifid II regulations due to come into force next year could mean a surprise boost for bond liquidity, according to TwentyFour Asset Management.
The rules, which mandate greater transparency around the trading of fixed income securities, were first announced in 2016 and left many fund managers wary of the potential impact on bond markets. But TwentyFour’s Mark Holman said last week the firm had now changed its view.
The chief executive said the changes would give bond traders more confidence in market conditions. At present, there is little data produced on how individual securities trade, leaving many market participants in the dark.
One of the main planks of the Mifid changes, which take effect next January, is the requirement for investors to report trading activity, including “over-the-counter” transactions made away from conventional exchanges, in a short timeframe.
Mr Holman said: “We have often said in the past that the plumbing through which we trade fixed income products over the counter was lacking in transparency, which must have a knock-on impact for liquidity.
“By posting trades as they are executed in a timely manner, the transparency will be greatly improved and we no longer have to rely on individual banks and brokers posting trades that suit them.”
“Everyone will have access to the same information almost in real time,” Mr Holman added. “This is potentially the best news for fixed income investors, no matter where in the chain they sit.”
Mr Holman acknowledged that TwentyFour had initially viewed the reporting requirements as “onerous”, before subsequently mitigating its stance.
Others remain sceptical of the changes’ potential to aid bond markets. Graham Bentley, managing director of gbi2, said the measures could “decrease liquidity, perhaps significantly”.
He said: “There will always be trades that aren’t matched immediately and transparent pricing would increase volatility substantially.
“Currently there is a longer process to find matching buyers or sellers, without quoting a price that will be traded against and hence exhibit that volatility.”
However, Mr Bentley said a ‘big bang’ in trading and use of technology, which would see a switch from over-the-counter trades to e-trading and matching, could mitigate the increased volatility and lower liquidity.
“I don’t see that transparency of quotes will naturally increase liquidity, if it increases volatility and some players [banks, market makers] withdraw as a consequence,” said Mr Bentley.
“However, data providers who develop new systems to facilitate more efficient trading under these new conditions may encourage participants to stay.”
Tim Cant, a counsel in Ashurst’s financial regulation practice, warned the optimal level of transparency remained unknown, adding that too much would “kill liquidity”.
Mr Cant also said the Mifid II rules on reporting transparency were likely to be phased in slowly.
“The revised calculations for when and where a bond [for example] is liquid or illiquid will likely mean that in the first two years post-Mifid II much of the market is permitted to waive pre-trade transparency and therefore the impact on price formation will be reduced,” he said.
