Amid all the craziness and volatility in U.S. bonds last month, a few telling data points emerged that reflect where the market is heading. As some measures of trading surged to records, those carried out by Wall Street's biggest banks lagged behind.
Daily trading of corporate bonds averaged $21.8 billion in October, the most ever, according to the Securities Industry & Financial Markets Association. Meanwhile, at the 22 primary dealers that are counterparties with the Federal Reserve, it was about average for the year.
U.S. government bond volumes, too, surged to a record $945.9 billion on Oct. 15 at ICAP Plc, the world's largest interdealer broker, as yields plunged the most since 2009. Trading at the primary dealers that week only climbed to the highest since June 2013, Fed data show.
The data suggest the biggest banks are losing a bit of their dominance over the bond market as post-crisis regulations prompt them to cut staff and inventories of riskier debt. In response, investors are changing the way they do business, transacting more frequently on electronic exchanges and stepping into trading once dominated by dealers.
“It's going to force the market to adjust and compensate,” said David Breazzano, who manages $8.2 billion in high-yield bonds and loans as DDJ Capital Management LLC's chief investment officer.
Market Volatility
Last month, bond prices swung the most in more than a year as investors grew jittery about plunging oil prices and slowing global growth. Implied volatility in Treasuries, as measured by Bank of America Merrill Lynch's MOVE index, was 19 percent higher in October than the average over the prior year.
The market was choppy at times, with volumes dropping when prices moved most. Still, the numbers show that investors found ways to maneuver, even with less dealer involvement.
Junk-bond trading averaged a record $8.3 billion a day in October, 26 percent higher than the average during the previous 12 months, according to the Financial Industry Regulatory Authority. The volume of speculative-grade debt traded on MarketAxess Holdings Inc.'s electronic system last month was almost 30 percent higher than the prior record.
At the same time, corporate-bond trading at primary dealers averaged $111 billion a week in October, just under the $112 billion average during the prior year, Fed data show.
Part of the decline in activity at Wall Street's biggest banks can be attributed to a drop-off in new corporate-bond sales, which tend to drive a significant portion of their business.
Another reason: The firms have been steadily cutting their inventories of riskier debt. They slashed their high-yield bond holdings 68 percent in the week ended Oct. 15 to a net $2 billion, Fed data show.
This means that they have less ability to opportunistically buy bonds when some fund has to liquidate big positions. Perhaps this leaves more opportunity for electronic-trading platforms, smaller firms, and money managers to fill in the gap.
It's hard to measure how easy it is for investors to maneuver in debt markets, or test whether they'll be able to liquidate their assets quickly in a deteriorating market.
“Liquidity is a perennial concern for investors,” wrote UBS AG strategists Matthew Mish, Boris Rjavinski and Stephen Caprio in an Oct. 23 report. “Interest in the topic has soared and, to be sure, it is ever-changing.”
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