Rules putting bond market at risk
Regulators say Canada is now more vulnerable to market shocks
Canada’s bond market middlemen are warning that rules put in place since the global financial crisis have left the country more vulnerable to market shocks than other nations.
One chief regulator says investors and dealers should not only get used to it, but get ready for more.
Speaking at the Bloomberg Canadian Fixed Income Conference in New York on Wednesday, Ian Russell, chief executive of the Investment Industry Association of Canada, complained that the country has been hit harder by bouts of market turmoil because of international regulations that make it more expensive for banks to hold bonds are made worse by the small size of its debt markets with fewer bond dealers facilitating trades.
“The thinness of the market means it’s particularly exposed to gyrations and yield shocks,” said Russell, whose organization represents Canada’s dealers.
Regulators estimate that the size of Canada’s corporate bond market is about $500 billion. The combined U.S. investment-grade and high-yield corporate bond market is more than $8.88 trillion, according to Bank of America Merrill Lynch bond indexes.
Canada’s bond market also has only 12 main dealers to act as shock absorbers by taking debt on their own balance sheets when there are more sellers than buyers in the privately traded market, Russell said. Regulations that make this more difficult have had a disproportionate effect on Canada, he added.
“It’s not as deep and resilient as the U.S. market,” he said.
A comparison of how much corporate bond prices diverged from their average in the past year shows that Canada bonds tended to move about $1.36, while U.S. swings averaged about $2.65, according to Bank of America Merrill Lynch data measuring the standard deviation of each nation’s corporate bond index.
Canada’s movement is almost double what it was in the same period five years ago, before the new international rules came into effect, while the U.S. average is little changed, the data show.
Tracey Stern, a manager of market regulation at the Ontario Securities Commission, agrees that financial shocks can have a greater impact on smaller markets like Canada’s. That’s why some U.S. rules, like a trading system with a 15-minute lag before prices are publicly listed, may not work in Canada. Nevertheless, she said price transparency is a priority for her agency.
“There will be greater transparency, which hopefully will bring greater liquidity,” Stern said during an interview with Matthew Winkler, editor-in-chief emeritus for Bloomberg.
“The possible negatives of great- er transparency will be outweighed by greater liquidity.”
Canadian regulators have proposed a system for the corporate bond market that for the first time would provide public data on every security. Information would be released on a two-day delay to give dealers time to clear big trades without prices turning against them.
The IIAC’s Russell applauded the two-day lag. But Stern, who is overseeing the overhaul, said the time delay could be shrunk to one day. She also voiced support for electronic trading of bonds, which would cut out dealers by directly matching buyers and sellers.
“People don’t like change,” she said. “You need to have that disruptive force to get people to change.”