MiFID II, Transparency and European Corporate Bond Markets
By Jim Rucker, Global Head of Operations Services, MarketAxess.
With the release of ESMA’s Consultation and Discussion Papers on MiFID II the industry is much closer to understanding what these far-reaching rules might look like once finalised, and the changes they are likely to entail for market participants.
A clear goal for European regulators is to increase pre-and post-trade transparency in fixed income markets. We have always supported post-trade transparency, which we believe has had a positive impact on the size and liquidity of the US corporate bond markets.
We see potential risks to liquidity, however, in introducing mandated pre-trade transparency for less liquid products such as corporate bonds.
What is liquidity?
A critical piece of the MiFID II regulation will depend on how liquidity is defined and measured. In the US we have conducted regular research, using data from FINRA’s TRACE consolidated tape, to analyse and quantify liquidity and trading costs in the US markets over time.
More recently, we have conducted a similar analysis to understand the key differences between the liquidity characteristics of the US and European markets.
We looked initially at three key measures:
- Overall trading volumes
- Turnover rates (defined as the total amount traded, divided by the volume outstanding for the bonds that traded)
- And overall size of the markets
We observed some interesting differences. According to Trax estimates1, total trading volume for Euro-denominated debt in 2013 was only $1 trillion, just a third of the $3 trillion traded last year in US dollar-denominated debt according to TRACE data (Fig. 1).
We also found that bond turnover for US dollar debt was approximately 60%, compared to just 41% for Euros. This means that US$-denominated bonds were trading about 1½ times more frequently than Euro-denominated bonds (Fig. 2).
As a point of comparison, prior to the financial crisis, turnover in the US corporate bond market was running at over 130%, meaning that each bond, on average, was both bought and sold more than 1.3 times per year (Fig. 3).
Corporate debt outstanding
A similar picture can be seen for the total debt outstanding in each region. In Europe, high-grade debt outstanding has increased just 20% in the last five years, from $2 trillion to $2.4 trillion. Yet, during the same period, US high-grade debt outstanding has almost doubled, from $2.7 trillion to over $4.5 trillion, according to FINRA (Fig. 4).