Vanguard’s Five Point Plan for Fixed-Income Trading

Much has been said and written about the state of fixed-income trading in recent years, particularly the lack of bond liquidity that so much electronic effort is aimed at resolving.

Earlier this year, I wrote two features on the fixed-income market, looking at both the alternative options that were coming to the fore with a more collaborative focus and how electronificaiton had yet to catch on in the same way as it has in the equities market, due to market structure and the difference in the nature of the product.

This week, asset management giant Vanguard published a report that laid out five key recommendations to jump-start the adoption and evolution of electronic bond trading practices. The report says that while the bond market structure is evolving to facilitate electronic trading and meet new challenges, the liquidity issues that have historically plagued the space are not as bad as all that.

Vanguard's key recommendations center on the following five points:

• Limit trading fragmentation

• Further develop all-to-all networks

• Integrate trading and order management systems (OMSs)

• Provide greater price transparency

• Protect information leakage

These are all very valid and sensible points, but it's nothing new either. Price transparency has long been a stumbling block when it comes to bond liquidity and it was a major driving force behind the emergence of those alternative trading models, such as Algomi. However, new regulation coming down the pike in both Europe and the US is aimed at improving post-trade fixed income trade data, which should, in theory, lead to improved price transparency.

Similarly, protecting information leakage has been a long-standing issue in bond trading, sometimes exacerbated through the practice of all-to-all trading. While Vanguard also promotes the further development of these all-to-all venues, for the overall benefit of the market, there is sometimes a trade-off here between transparency and better pricing.

The sheer number of electronic trading platforms and venues in the market mean it's no surprise to see Vanguard also pushing to limit trading to a smaller number of venues. It makes sense to attempt to concentrate liquidity onto a select number of platforms, but consolidation is still likely to occur for many of these providers, so it's something that's probably going to occur naturally anyway.

The last point was around the further integration of trading and OMSs. While the practice is fairly widespread in equities, it has yet to catch on in the fixed-income market. This would be much harder to achieve, because while there are some venue operators that provide such functionality in the fixed-income market, it would take a concerted effort from all players involved to implement functionality that would enhance efficiencies when seeking out possible bond trades.

Projects like Neptune have already begun work in this space to establish a hub for the exchange of pre-trade bond axes (intentions to buy or sell a security) and standardize inventory formats, but much more would need to be done.