By Christopher Whittall And Juliet Samuel
Central banks across the world have turned on the money-supply
taps, but investors and regulators are increasingly worried about a
shortage of liquidity that they say could lead to severe disruption
in financial markets.
On Wednesday, the Bank for International Settlements became the
latest major authority to sound the alarm, warning that it is
becoming harder to trade in bond markets and that the problem could
spill over into the real economy. Those comments echo concerns
recently aired by the Bank of England, as well as the views of a
slew of major bond-market investors and analysts.
Bond markets are "significantly less liquid than they used to
be," said Wolfgang Kuhn, head of pan-European credit at Aberdeen
Asset Management Ltd. "The risks are becoming bigger with central
banks pushing everyone [in the same direction]. You don't want to
be in a situation where this unwinds."
Banks' trading desks have become more reluctant to trade riskier
securities such as corporate bonds since the 2008 financial crisis
due to a combination of tougher regulation requiring them to hold
safer assets on their balance sheets and a smaller appetite for
outsize bets. Bond funds have meanwhile mushroomed in size, after a
glut of global debt issuance thanks to record low borrowing
rates.
BIS data show that in the U.S., broker-dealers who match buyers
with sellers have seen their share of the total bond market fall
from 3.63% to 1.22%, indicating liquidity has fallen. While
equivalent figures for Europe weren't available, traders said a
similar trend is playing out.
Central banks in Europe, Asia and the U.S. have poured trillions
of dollars into the global economy to try to kick-start growth.
This wave of money has pushed investors in the same direction,
with trades becoming crowded, said Guy America, global co-head of
credit at J.P. Morgan Chase & Co. The so-called taper tantrum
in 2013--a violent selloff across fixed-income markets after the
U.S. Federal Reserve raised the possibility of scaling back its
quantitative-easing program--provided an example of this, he
said.
"If a lot of investors are trying to do the same thing at the
same time, then the market won't feel liquid regardless of the
environment," said Mr. America.
But regulators have also recently been alarmed by unusually
sharp price swings in two of the world's most liquid markets--the
"flash crash" in U.S. Treasuries in October and the one-day 30%
drop in the euro against the Swiss franc in January.
"What happens in financial markets does not always stay in
financial markets," said Hyun Shin, the BIS's head of research. "We
would do well to be on the lookout for any potential economic
impact from financial market disruptions."
The BIS also said that many market participants say trading
large amounts of corporate bonds has become more difficult and that
market liquidity more widely could come to "depend on the portfolio
allocation decision of only a few large institutions."
Chris Salmon, executive director for markets at the Bank of
England, warned in a speech last week that "future shocks could
have more persistent and more widespread impacts across financial
markets". He suggested policy makers raise awareness of the issue
so that traders price in these risks appropriately.
The BIS said that the biggest concerns are in the corporate-bond
market, where trading volumes haven't kept pace with the rapid
growth of security issuances over the past few years.
Investors are already changing the way they trade bonds as a
result.
Alain Kerneis, a managing director at BlackRock Inc., the
world's largest asset manager, said he is limiting his allocation
to certain bonds because of the liquidity risks. "You tone down
your overweight [allocation] due to concerns around market
liquidity," he said.
Chris Iggo, head of fixed income for Europe and Asia at Axa
Investment Managers, said some of Axa's funds try to bypass the
need to source bonds in illiquid markets by trading less of its
portfolio than normal.
Mark Pittman, a managing director at Allstate Corporation, said
he feeds his trades into the market more slowly and in smaller
sizes to deal with the heightened risk.
And Mr. Kuhn at Aberdeen Asset Management says his firm has
become more active in buying companies' new issue bonds, which are
easier to get hold of in large sizes than bonds trading in illiquid
secondary markets.
Access Investor Kit for Aberdeen Asset Management Plc
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=GB0000031285
Access Investor Kit for BlackRock, Inc.
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=US09247X1019
Subscribe to WSJ: http://online.wsj.com?mod=djnwires