Post global financial crisis, bond market liquidity has been not only challenged, but fundamentally altered as regulatory mandates and other issues reduce the amount of capital traditional liquidity providers have available for secondary market-making and risk transfer.
As a result, dealers who once provided immediacy and the appearance of a continuous market are retracing, and the search for alternative pools of liquidity is underway.
In its latest research, “Sponsored Access: A Bridge to Enhanced Bond Market Liquidity,” TABB Group reviews the opportunity the sponsored access model provides participants in the ever-changing and increasingly illiquid bond market. The report explains that increased burdens on traditional market-makers are eroding the principal risk-based model and the path to move the market forward has not yet been defined. Many believe a complete overhaul of market structure is necessary, while others are calling for a more evolutionary, organic tweaking of structure to fit with the current regime. Breaking down the long-standing divide between wholesale and client-to-dealer markets is no easy task, but TABB notes one successful approach may be to employ the use of a sponsored-access model.
“Sponsored access is a viable and already proven method for maintaining the integrity of business relationships, protecting pre-trade information, and efficiently transferring risk,” says Anthony Perrotta, (pictured) report author and global head of research & consulting at TABB Group. “Formally developing this model has the potential to breathe fresh air into OTC markets that are in need of solutions to their illiquidity problems now, but also for the expectation that the currently benign macro conditions may start to reverse course and worsen illiquidity.”
TABB’s research explores the ways in which trading venues are working to develop new trading protocols in their efforts to connect asset owners and unlock hidden, as well as build, pools of liquidity. These innovations increase market connectivity and may eventually garner adoption, but in the meantime the market is addressing what structural changes need to take place to move to an open, bilateral model. TABB notes that changing imbedded behaviours, policies, and infrastructure built up over forty years will not be accomplished overnight and market participants may want to embrace existing pools of liquidity in the meantime, leveraging the sponsored-access approach, as the paradigm shifts.