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New Gold Dream: A Consolidated Tape for European Bond Prices

Everybody wants it, somebody should build it, anybody could build it, yet nobody wants to pay for it. The story of Europe’s consolidated price tape for equities, first mooted under the original 2007 Markets in Financial Instruments Directive (MiFID) is a logical conundrum, in part because regulators are predetermining market structure where no commercial imperative exists.

Undeterred by the non-existence of an equity tape nine years after MiFID came into effect, the European Commission (EC) has determined that a consolidated tape should also be provided for fixed income instruments under MiFID II, the expanded and reinforced version of the directive set to take effect in January 2018.

A post-trade price tape can have considerable value for fixed income trading. The enormous range of issued bonds – reflecting multiple tenors and the dispersal of refinancing by corporates – makes finding liquidity more difficult. Consequently, price discovery is more difficult.

“In 2018 when the systematic internaliser regime starts coming online, if there is more use of electronic platforms how do traders know if platforms are delivering value?” asks Bill Gartland, senior director, evaluated pricing, at Interactive Data. “Traders need to start quantifying that. The limitations on a lot of the current models is that they look for comparable bonds by reference data attributes. They run out of gas pretty quickly.”

Europe would not be the first jurisdiction to offer such a tape; the US has an established tape or equities and also a post-trade tape for bonds, called the Trade Reporting and Compliance Engine (TRACE), which is operated by the Financial Industry Regulatory Authority (FINRA), a dealer-led trade association.

The effect of TRACE, which began to be phased in from 2002, was not only an improvement in price discovery. It also reduced trading activity in the corporate bond market in the US, most acutely amongst already illiquid high yield bonds according to a 2013 Massachusetts Institute of Technology study, ‘The Effects of Mandatory Transparency in Financial Market Design: Evidence from the Corporate Bond Market,’ which saw a 41.3% reduction in trading activity based on volume/issue size, against 15.2% across all bonds.

“I understand all of the concerns about what it might do to liquidity and what it might do to the willingness of certain people that take on risk,” says Gartland. “They are all legitimate concerns but at the same time I think the markets are more robust and viable when they are perceived to be more open.”

The study also found that transparency caused a significant reduction in price dispersion, supporting the goal of price discovery. However caution is needed to mitigate negative effects.

“Any TRACE-like consolidated tape should have an exception for block trades,” says James Wallin, senior vice president for fixed income, AllianceBernstein, speaking at the Fixed Income Leaders event in Boston in June. “The value that is reflected in the knowledge about a large trade is not something that should be shared with the market immediately – people won’t do it.”

Urged on

In order make the tapes for equities and other assets more viable, the EC has tried to establish a framework under MiFID II that will ensure “The proposed provisions set the conditions for the emergence of consolidated tape providers.” To deliver on both equity and non-equity tapes, several amendments and new provisions have been inserted into the original MiFID text.

The most fundamental point the provisions address is that all market participants must publish trade reports through standardised Approved Publication Arrangements (APAs). Procedures for national competent authorities (NCAs) to authorise APAs are set out under MiFID II, along with the organisational requirements for the APAs. OTC data should then be more easily organised and normalised by consolidated tape providers, of which the EC expects there to be several, in competition with one another.

Article 67 of MiFID II sets out the conditions under which consolidated tape providers (CTPs) should operate. The majority of these require an NCA to set out rules, for example policies for collecting information, consolidating it into a “continuous electronic data stream” and publishing it in real-time with a free feed available after 15 minutes.

All security and administrative oversight sits with local NCAs while ESMA has tasked with developing draft regulatory technical standards for data formatting and functional, which include the identification of additional services that a CTP could perform to boost market efficiency.

What constitutes “a reasonable commercial basis” for providing access to data streams, along with the means to ensure data from different CTPs is consistent and can be pulled together, and is in line with the content outlined in the rules, is to be determined by the EC via adoption of delegated acts.

Same problem, different asset

With so much yet to be determined the potential providers of consolidated tapes, such as MarketAxess and Bloomberg, are reluctant to talk on the record. Consequently, there is no certainty that one or more providers of a tape will come forward.

“What the regulators are wrestling with is how to mandate the provision of information and at what cost,” says PJ Di Giammarino, chief executive of regulatory think-tank, JWG. “Mandating that a solution be created doesn’t sort out the business case for anyone to do it. At the European Parliament level there’s very little tolerance for hearing that the industry can’t just make these things happen.”

Noting that establishment of a consolidated tape for non-equity instruments will be “more difficult to implement than the consolidated tape for equity instruments” the EC has written it is “appropriate to provide for an extended date of application of the national measures transposing the relevant provision” so providers can gain experience with the equity tape.

“They recognise there’s a gap,” says Di Giammarino. “In the more detailed texts they note that if there isn’t a tape, [the authorities] will have to work out what they’ll do. There is a very real chance that they will have to come back on this one.”

Clearly the US and Europe are very different markets; having a tape run by a regulator in a similar model to that of the US is not what has been intended, however a single tape may end up being the default model.

Both have advantages, says Wallin, “The more concentrated the reporting environment the better, but it is also good to have a bit of diversity. Regulators take different views on subjects such as block trades, and if you are on one side of that it is good to have somebody on your side.”

For Gartland, the outcome will be determined by economics and motivation.

“There is really only room for a single provider; here in the US regulators secure that role themselves, everyone knows where to look for the data,” he says. “Having multiple venues, then multiple reporting firms having to send that same information to multiple [aggregators]; what’s in it for them?”

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