Regulations that currently force traders to use the MTS platform in eight EU countries have held back the development of the bond market in Europe, says a report sponsored by interdealer broker Icap.
The study by Professor Avinash Persaud, an economist and former director of debt research at UBS, argues that the current block on competition costs Europeans some EUR119 million in welfare gains a year, as well as creating unnecessary systemic risks and hampering market liquidity.
The restrictions, which are applied to secondary market trading, effectively require primary dealers to execute government bond trades on designated electronic trading platforms and were introduced to centralise liquidity in a single location.
But Persaud says although European debt issuance is fragmented, restrictions on the location of trading are holding back market development and may create "artificial liquidity and systemic fragility".
Persaud claims the US government bond market today significantly outperforms the European market – by all measures of liquidity, cost efficiency and volumes.
"One must ask how long Europe is prepared to accept electronic trading volumes 95% down from the US figures – when Europe’s potential exceeds the US by 37% in terms of bonds outstanding," he says.
The report also claims that the restrictions formed "the critical element" that allowed Citigroup's controversial bond trade in August 2004 when the bank pushed through EUR11 billion in paper sales in two minutes over the automated MTS platform. As the value of futures contracts fell and traders moved to cover their positions, Citigroup re-entered the market and bought back about EUR4 billion of the paper at cheaper prices.
Persaud argues that the European government bond market would be more efficient and stable if traders were allowed to choose to use electronic trading platforms - such as Icap's BrokerTec platform - instead of being forced to use designated exchanges.
He claims that the cost of trading bonds worth EUR1 million averaged more than EUR15 on the MTS platforms, compared to EUR3 on the e-Speed and BrokerTec platforms.
But MTS has denined this and says the study contains factual errors. Gianluca Garbi, the chief executive of EuroMTS, told the Financial Times that the platform's average fee was about EUR5 for EUR1 million worth of bonds traded.
Garbi says the report was commissioned by Icap "and must be seen in that light".
"We have used electronic trading to drive down the cost of trading in comparison to earlier voice-broking systems by 95%," Garbi told the FT. "We will continue to be the most successful platform in whatever market structure the participants agree on because we provide the least expensive, most transparent and most widely distributed platform."
Read the Icap-sponsored report here:Download the document now 253.3 kb (Adobe Acrobat Document)