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I spent a few hours with a firm active in this space the other week. I think this is going to be a difficult battle. There are already over a dozen electronic v
by lmg643 12y ago
I spent a few hours with a firm active in this space the other week. I think this is going to be a difficult battle. There are already over a dozen electronic venues for bond trading, some of which are pretty successful and allied with major liquidity providers.
The core problem they are trying to solve is an example of something being broken by design:
>>> "the bond market doesn’t have a centralized system where traders can plainly see the fees involved in the trade. This means traders have to ask each bank, one by one, either by phone or electronically, what they are willing to sell a Treasury bond for."
This isn't exactly true - there are plenty of electronic quotes for small size. When you want to trade a lot of bonds - that's another story. The dealers don't want their prices out there electronically for any taker, because fixed income markets are relatively illiquid and the transparency can hurt them.
Not exactly sure how this will be overcome, but my general assumption is to borrow from the dark pool model for equities.
- galen211 12y agoThanks - we chose Treasuries because it's a highly liquid market, and the bonds are easy to value. Even large trades can't move prices by that much since the cash flows of Treasuries are fungible. Also, the current electronic systems for trading aren't necessarily good at accommodating large trades from institutional investors. The entire risk of the trade is owned by one market-maker. If trading platforms could facilitate one-to-many counterparty transactions, the market would be able to price large trades more competitively. Moreover, institutional investors could split up large trades into smaller executions without disclosing their identity to a principal market-maker. That might be more advantageous than executing a single block.
- justincormack 12y agoEven off the run Treasuries are fairly illiquid now, and the on the runs spiked (up) late last year one day without a decent market. The situation is pretty dire, as the OP mentions there are innumerable attempts to deal with this, although I disagree on their success. Good luck with the vested interests and the old-fashionedness of the market...
- jbapple 12y ago> Even large trades can't move prices by that much since the cash flows of Treasuries are fungible. Could you elaborate?
- galen211 12y agoSure - if you own a bond maturing in 10yrs and paying a coupon of 2% yearly, what you have is a series of cash flows of 2 2 2 2 2 ... 102. In other words, a treasury bond can be decomposed into a series of zero coupon cash flows (interest payments+principal re-payment). The price of a 'whole bond' is the sum of the prices of the different zero coupon cash flows. A bond maturing in 30yrs has at least 10yrs of cash flows that line up with the 10yr bond. Since coupon interest payments can be 'stripped' from one bond and 'reconstituted' in another bond through the federal reserve, the price of matched-maturity zero coupon cash flows, even if they are stripped from different bonds, is the same. If they weren't, there would be an arbitrage opportunity to buy the cash flows of one bond and sell the cash flows of another bond, exchange them at the Fed, and lock in an immediate profit. Sometimes arbitrage opportunities like this do exist, but typically it's due to liquidity events where it becomes impossible finance offsetting positions. There's a good article on this called "Notes on Bonds: Liquidity at all Costs in the Great Recession" by Musto, Nini, and Schwarz