SIFMA - Securities Industry and Financial Markets Association Inc.

04/04/2024 | News release | Distributed by Public on 04/04/2024 08:40

Fixed Income Market Structure Compendium

2023 Market Metrics & Looking to 2024 with Our Market Structure Survey

Executive Summary

To learn more about key trends in fixed income markets in 2023, we sat down with Kevin McPartland, Head of Market Structure and Technology Research at Coalition Greenwich. This is an edited summary of Coalition Greenwich's responses.

Electronic trading: In 2023, overall electronic trading of Treasuries was roughly flat, and we've been at roughly two-thirds of the notional volume traded electronically for the better part of the last decade. The shift we've seen over the last three to four years is electronic trading is increasingly done between dealers and clients. We now have dealer and client each trading now over 60%. On the corporate bond side, we have seen a very strong growth story over the last ten years from an electronic trading perspective. 2023 investment grade electronic trading accounted for 42% of notional volume versus low teens a decade ago; high yield 30% of total volume versus low single digits.

Surprising trend: In corporate bonds, at the end of 2022 after the Fed started to raise rates, volumes really started to grow. It was less about the notional volumes and more about the average daily trade count, signifying a huge influx of retail interest in the bond market. From 2021 to 2022, the average daily trade count effectively doubled - hitting almost 100,000 trades a day - and growth continued in 2023. We were up another 20% from a trade count perspective in 2023, and, so far in 2024, the trend continues.

Key Trends: It's hard to not talk about regulations - the mandate for clearing of Treasuries and Treasury repo is going to have a big impact on the market, a huge, huge move for the marketplace. It's hard to not talk about AI. In the bond market, there's been AI underpinning a lot of evaluated pricing for a number of years that's only getting more sophisticated, specifically the ability to use Generative AI for searching large sets of data. Then, as the last theme, the Basel III Endgame rules could have a very big impact on how banks allocate capital and the cost of that capital, which, ultimately can impact liquidity in the bond market.

Dealer positions vs. ADV: We looked at the role of dealers in the bond market and how they provide liquidity. The take away there was this is clearly increasingly an agency market, whether that's because dealers can't commit the capital, they don't want to commit the capital, or they feel they don't need to commit the capital. The average daily bond value (traded) continues to go up and up and up. And, in that same period, largely speaking, dealer net positions continue to go down. Primary dealer corporate bond holdings dropped 77% between 2017 and 2022, while trading volume grew 29%.

Treasury volumes: The electronic trading side of this story is that the market structure that has been developed has allowed the market to trade at these high volumes (reaching over $900+ billion ADV). But the real drivers of volume are definitely macro - we're in one of those states where everybody's waiting to figure out what the Fed is going to do next and trying to position around that. There's a lot more uncertainty and disagreement as to what direction the market will go. This is great because that's what really makes active capital markets - you have people willing to be on both sides of every trade. I think those dynamics are definitely helping to keep these volumes as high as they've been.

Volatility: Equity market volatility (VIX) has been very low while the interest rate market volatility (MOVE) has been sustainably high. It does seem like it has calmed down slightly in the last couple of weeks yet remains much higher than in 2021. (MOVE average price: 2021 = 61.84, 2022 = 120.23, 2023 = 121.66, YTD 106.84.) We're going to continue to watch volatility, which speaks to the to the health and next steps in markets.

Report Highlights

A Conversation with Coalition Greenwich:

  • Electronic trading - Treasuries ~2/3 notional volume; IG corporates 42%, HY 30%.
  • Surprise - corporate bond trade count +20% in 2023, due to retail investors.
  • Trends - Treasury clearing/big market change, AI/sophisticated screeners, Basel III Endgame/constraining capital allocation. Dealer positions - primary dealer corporate bond holdings dropped 77% between 2017 and 2022, while trading volume grew 29%.
  • Treasury volumes - breaking $900B ADV; market dynamics keep volumes high. Volatility - MOVE index sustainably high but has come down; 2021 = 61.84, 2022 = 120.23, 2023 = 121.66, YTD 106.84.

Market Themes:

  • UST Issuance - issuance estimated to be almost $4T for FY23 + 1Q24, +305.7% to historical average. Treasuries outstanding at $26.4T (U.S. government interest payable at $81.5B, +17.4% Y/Y).
  • UST Holders - Treasury demand has shifted. Fed holds 18.1%, now selling. Foreign holds 31.2%, top two (Japan, China) now selling. Demand is now taken up by asset managers & hedge funds, which are price sensitive.
  • Federal Debt - now $34.0T, +54.4% in five years and the trend is increasing (Y/Y changes): +3.5% in 1Q23, +5.8% in 2Q23, +7.2% in 3Q23, and +8.2% in 4Q23. An unsustainable trajectory.
  • MOVE vs. VIX - correlations b/t equity (VIX) & bond (MOVE) volatilities shifted from 0.6238 since 2000 to 0.2276 since 2001 (-63.5%) & 0.5640 in 2023 (-9.6%). Equity investors more complacent around market movements.

Market Metrics (2023 average, Y/Y change):

  • Total - issuance $8.3T, -6.3%; ADV $1.1T, +9.0%; outstanding $43.0T, +6.5%.
  • UST - issuance $3.5T, -8.1%; ADV $760.5B, +11.0%; outstanding $26.4T, +10.2%.
  • Corporates - issuance $1.4T, +5.4%; ADV $42.5B, +6.6%; outstanding $10.6T, +1.6%

Author

Katie Kolchin, CFA
Director of Research

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