Some bond market participants are cautiously optimistic that an EU consolidated tape for fixed income could speed up the electronification of the corporate bond market—but aggregating the data needed for the tape is not a straightforward task.

The European Commission (EC) says it is planning a consolidated tape for fixed income, which it hopes will bring transparency to the market and encourage trading in these instruments. Traders and vendors in the fixed-income space say better data availability would promote electronification of the traditionally voice-dominated corporate bond market.

Chris Murphy, who ran the global fixed-income business at UBS, and then founded and is now CEO of trade execution services and liquidity aggregation provider Ediphy Markets, says a consolidated tape will give market participants more confidence in terms of price levels and the liquidity dynamics of certain instruments, and boost their willingness to move away from voice trading.

By democratizing the information across the marketplace, I think it will then encourage more participants to have confidence in where things are trading.

Chris Murphy, Ediphy Markets

“A lot of the hesitancy around actually using an electronic platform [for corporate bonds] is that users have no idea what to expect in terms of a price,” Murphy says. “So that is why they then start to default to picking up a phone, so that they can start to get a bit more color. But that color is coming from people that have more information than them; there is an informational asymmetry across the market. So by democratizing the information across the marketplace, I think it will then encourage more participants to have confidence in where things are trading.”

Ediphy Markets offers trade execution services for buy-side clients and aggregates liquidity across multiple liquidity pools. It takes trade instructions from the client and then uses analytics to construct an optimal execution strategy. The vendor has built an unofficial consolidated tape, and uses that data to construct its execution algorithms.

Low-frequency instruments 

Aggregating data in a market as illiquid and fragmented as corporate bonds is not a straightforward process. Although it has picked up steam over the past year, fixed-income electronification lags other asset classes such as equities and foreign exchange (FX). One of the primary reasons for the reliance on voice trading is the nature of bonds, which are more numerous than equities and often less liquid, making it harder to collate accurate data.

The illiquidity of bonds limits the effectiveness of a tape, says Jack Seibald, managing director and global co-head of prime brokerage and outsourced trading at investment bank Cowen. Seibald says he has been hearing about the electronification of fixed income for at least the last 20 years, and it is infinitely more complicated to achieve than in equity markets.

The tape clearly records the transactions relatively quickly after they have happened, so you get some sense of where the market is. … You do risk information leakage, and with that, you risk sometimes the willingness of banks to put up liquidity to service that.

Stu Taylor, MUFG

The problem, he says, is that bonds belonging to any one corporation can comprise many different types, with varying maturities, indentures, and sizes. On a given day, some might not trade at all. “A consolidated tape, at least in my mind, wouldn’t solve for that, because there would be no trading activity to report in that particular security. So, we are back to the bid/ask in an over-the-counter (OTC) security. That is the complicating factor that has resulted in the lack of speed in the electronification of the fixed-income markets. There are just infinitely more securities of the same issuer that are out there; some trade, some don’t,” he says. 

Joram Siegel, head of fixed-income outsourced trading at Cowen, says there are some 80,000 unique Cusip identifiers in the US, but only a few thousand bonds will trade on a given day, and even fewer trade multiple times a day. “If you want to trade a bond that has not traded today or even recently, that generally requires engaging with a liquidity provider and negotiating liquidity,” Siegel says. “You can have an idea what you think the bond is worth, but if it hasn’t traded today, you don’t know exactly what the trading level should be.”  

But despite the illiquid nature of the bond market, a tape would offer some helpful transparency. Ediphy’s Murphy says the tape will not necessarily solve the fact that certain bonds never trade. But for bonds that do trade—even episodically—having visibility on what trades and what doesn’t is useful.

“If you do not have the consolidated tape you can’t distinguish the liquidity characteristics of one International Securities Identification Number (Isin) versus the other,” Murphy says. “You, as an end-user, don’t really know unless you pick up the phone and try to find out more color from your dealers. Whereas, if you have a consolidated tape, you then can see this Isin has not traded for six months, yet this one has traded on average three times a week. So that, in and of itself, will encourage different liquidity formation within the markets, because liquidity begets liquidity. And my expectation is that once people see that these bonds trade even a little bit, and these others don’t, then you will start to see people trading in the stuff that is actually trading a little bit and liquidity will start to concentrate.”

Risk of information leakage

Stu Taylor, head of electronic trading at Japanese bank MUFG, and the founder of Algomi, says a consolidated tape would have its merits, but it must be implemented with caution. “The tape clearly records the transactions relatively quickly after they have happened, so you get some sense of where the market is. We see that with Finra’s Trade Reporting and Compliance Engine (Trace) system. You do risk information leakage, and with that, you risk sometimes the willingness of banks to put up liquidity to service that.” Trace facilitates the mandatory reporting of OTC transactions in eligible fixed-income securities in the US.

Information leakage from a consolidated tape can occur if the rules for the tape have been set up incorrectly, particularly for large trades or when dealing with less liquid instruments. If exceptions have not been made for such types of trades and there is a large block trade for less liquid instruments, a bank may have to report that they have bought a large trade rapidly and at what level. In such a case, Taylor says the whole market would know the entry point for that trade, and the information advantage and the ability to manage risk discreetly would be lost.  

Consolidating all those data sources and being able to aggregate and analyze liquidity to route the trade is the goal. This is where technology is helping to modernize longstanding manual workflow.

Joram Siegel, Cowen

One industry veteran from a trade body says the bond markets will never catch up with equity trading, which is not necessarily a negative—it is, after all, a completely different asset class. Unlike equities, there cannot be high-frequency trading in illiquid bonds because they are by their nature traded at low frequency.

Siegel from Cowen says the data is already out there, but a lot of it is fragmented across multiple sources and locations, and is of varying quality. “Consolidating all those data sources and being able to aggregate and analyze liquidity to route the trade is the goal. This is where technology is helping to modernize longstanding manual workflow,” he says.

Tape for bonds

The EC has been mulling a consolidated tape for years, though prior to this year, that conversation mostly focused on completing an equities tape first. Perhaps bowing to industry lobbying efforts, the EC said in January that, as part of shoring up the EU’s position as an economic force, it would be looking to improve transparency into euro-denominated bonds. These efforts would include implementing a consolidated tape for corporate bond issuances.

In a communication, the commission said the tape would be a “central database, which aggregates the various post-trade data sources into a single view. A consolidated tape will ensure that more trading takes place on transparent, regulated platforms, thereby increasing market depth and attractiveness of euro-denominated securities, both for issuers and investors.”

Murphy at Ediphy Markets says it seems as if the EC wants to prioritize the bond market over equities now, having possibly realized that the more pressing need was in the bond space where a lot of trading activity is invisible to market participants.  

“In the equities space, at least you generally have a primary exchange where you can actually see a significant portion of the price action. Yes, there is still quite a lot done off-exchange, but at least there is generally continuous price transparency on those primary exchanges. In fixed income, you have never had that. So there are large parts of the market where most of the participants are blind in terms of what has been going on in that particular Isin, or that particular sector,” he says.

Liz Callaghan, director for secondary markets at the International Capital Markets Association (Icma) and secretary to the Icma Electronic Trading Council, says a consolidated tape will alleviate existing post-trade information asymmetries, where the information is fragmented and often inaccessible.

“With trustworthy post-trade accessible data, the consolidated tape will facilitate automation and electronification of many processes, such as hedging with derivatives,” she says. “Sometimes it is difficult to find accurate market valuations of the underlying security. Derivatives pricing can diverge from fair value, creating additional risks and costs for investors looking to hedge their exposures. In addition, algo trading will benefit from a consolidated tape, as the post-trade prices in the consolidated tape can be used as reference prices.”