Turbulent government-bond markets are prompting one large
brokerage firm to take a cue from the stock-trading world and
consider installing circuit breakers.
ICAP PLC is studying the possibility of temporarily halting
Treasurys trading following large price moves, according to people
familiar with the matter.
Such a program would mark the first use of such safeguards in
the $12.5 trillion U.S. Treasury market. Circuit breakers are
routinely used to halt trading in stocks when price fluctuations
exceed predetermined ranges.
London-based ICAP is raising the idea with some of its
customers, one of the people said, and weighing the pros and cons
of adopting such controls, which already are commonplace in equity
markets in the U.S. and elsewhere. According to Sandler O'Neill +
Partners estimates, ICAP's BrokerTec unit handles about 60% of
Treasurys trading activity between banks and high-speed trading
firms, which account for a large share of overall trading.
Some traders worry that timeout periods in the world's most
liquid securities market would reduce investors' access to the
perceived safety of Treasurys when other markets are declining, and
could raise the possibility of distorted prices in related markets
like derivatives that are closely tied to government bonds.
Even so, the development is the latest sign that price gyrations
sweeping financial markets are unnerving traders and pushing
participants to consider unprecedented steps
Some market participants have discussed the idea of circuit
breakers in bonds with officials at the U.S. Treasury Department, a
person familiar with the talks said.
"Given the recent extreme swings in bond prices, safeguards to
prevent the market going into free fall are worth exploring," said
Kevin McPartland, head of market-structure research at Greenwich
Associates.
A spokesman for Nasdaq OMX Group Inc., which runs a Treasurys
trading platform, declined to comment on any new controls under
discussion. A spokesman for Tradeweb Markets LLC, which also has a
Treasurys platform, declined to comment.
ICAP's discussions come on the heels of large one-day price
swings in Treasurys and German bunds, two of the largest, most
liquid markets in the world, over a period of months. The events
touched off a debate about whether electronic bond venues need
heightened risk controls.
Implemented in the U.S. after the 2010 "flash crash" that sent
the Dow Jones Industrial Average tumbling more than 700 points in a
matter of minutes before largely recovering, circuit breakers
essentially put trading in a stock on hold if prices move up or
down by a preset amount intraday. Exchanges coordinate with one
another to issue a marketwide halt in trading.
In December, Chicago futures-exchange operator CME Group Inc.
said it would implement circuit breakers for Treasury futures,
currency futures and metals futures, expanding existing controls it
already had in place for equity and energy futures. Those controls
have been put in place.
Such procedures would be vastly more difficult to apply to
bonds, observers say. While much of the bond markets are traded
electronically today, trading doesn't take place on exchanges and
the handful of platforms catering to bonds don't coordinate with
each other on how to handle extreme price moves.
"In a world where liquidity can move so quickly from one venue
to the next, the absence of an industrywide agreement on when to
halt trading poses a risk to the bond market," said Adam Sussman,
head of market structure at institutional equities-trading platform
Liquidnet.
Traders have attributed the heightened volatility in government
bonds in part to structural factors, including the rise of
electronic trading and prevalence of high-speed computer algorithms
that were long prevalent in the equity, futures and
foreign-exchange markets.
The Treasury Market Practices Group, an expert panel convened by
the Federal Reserve Bank of New York, in April wrote that automated
trading strategies now account for more than half of Treasury
trading on some platforms, and that its increasing adoption would
lead to "the risk of sharp, short-term disruptions to the Treasury
securities market of the kind experienced in the equities and
futures markets."
Others finger a decline in liquidity, or the ease of trading at
given prices, as a result of new rules in the wake of the financial
crisis targeting bank risk-taking.
In April, Treasurys traded by banks that act as primary dealers
of U.S. government securities hit their lowest monthly volume seen
since 2009, according to Haver Analytics.
The concerns come as equity and currency markets have
experienced exaggerated price swings, raising concerns about the
role of electronic trading.
"Pricing may adjust quickly and unexpectedly, even in the
absence of significant market events," said authors of a report
last month by the Financial Stability Oversight Council, a panel of
top U.S. regulators created after the financial crisis to oversee
the financial system.
On Oct. 15, traders scrambled to react to a stunning rally in
Treasurys that sent yields on the 10-year note plummeting to an
intraday low of 1.87% within minutes, their biggest one-day decline
since 2009.
The episode, in which some dealers turned off their automatic
price-quoting systems, prompted scrutiny from the highest levels in
Washington and on Wall Street.
"You started seeing gaps because dealers were getting full,"
said Scott DiMaggio, fixed-income portfolio manager at
AllianceBernstein, which oversees $499 billion in assets.
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