The Bank of England is considering more radical reforms for the fixed income market than those already being proposed in MiFID II.
As part of its Fair and Effective Markets Review, which was established by UK chancellor George Osborne in June this year, a consultation paper on the fixed income, currency and commodities markets has been published this week.
The paper identifies some of the barriers to fairness and transparency in these asset classes and has identified electronic trading and standardisation of fixed income products as areas it believes could result in improvements in the market.
“While there will always be a need for a range of bespoke structured products, there may be scope for greater standardisation of more frequently-traded instruments,” the paper said.
In particular, it said market participants believe standardised issuance of corporate bonds would reduce liquidity problems in the secondary market by concentrating it among a smaller number of bonds with similar features.
The Bank of England added that this could also improve price transparency for investors, reduce scope for market manipulation and result in cheaper funding for issuers. However, it also pointed out that issuers put a high value on being able to set specific terms for bonds depending on their cash flows.
Gareth Coltman, head of European product management at fixed-income trading specialist MarketAxess, said standardisation has drawbacks for both issuers and the buy-side.
“It remains to be seen if this is in the best interest of issuers, who currently are able to easily raise finance tailored to their needs. The variety of issuance also creates alpha opportunities for fund managers,” he explained.
“It seems likely a combination of macro-economic, market structure and regulatory change will be needed to realise the vision of standardised issuance.”
The consultation also identified electronic trading in fixed income as a more transparent way of trading bonds and other products.
“Recent years have seen an increase in more transparent forms of electronic trading in fixed income markets, through the increased use of single or multiple-dealer platforms,” it said.
“However, the use of technology in many FICC markets remains relatively underdeveloped. Many end-users therefore still access the market via an OTC market maker, with the markets segregated into separate interdealer and dealer-to-client platforms.”
Coltman added that the industry has made progress towards improving transparency despite challenges.
“European corporate credit markets have benefited from the growth in electronic trading over the last ten years, however these markets face tough challengers with lower turnover and thinner liquidity than the US in addition to ongoing regulatory change. In response to these challenges, the industry is looking for solutions to tap into broader sources of liquidity,” he said.
The Bank of England has asked market participants to comment on whether a standardised corporate bond market is practical or desirable and how it such a regime might be implemented across a broader range of fixed income products. It also asks how greater uptake of electronic trading in fixed income could be encouraged.
Its consultation paper goes beyond many of the new rules for fixed income currently proposed as part of MiFID II, which is primarily focused on increased transparency and moving OTC trading onto organised trading facilities. However the EU-wide regulation is unlikely to look to standardise fixed income products at this point. But, as one of the biggest centers for fixed income trading in Europe, changes to UK rules could have an impact beyond its borders.