Flow Traders’ Meyers: Regulators need to look at ‘archaic’ bond market

Tom Eckett

a man in a suit

Christopher Meyers, managing director at Flow Traders, has said there needs to be more focus on the structural issues in the bond market in order to understand why ETFs were trading at all-time wide discounts last month.

Speaking on the first of ETF Stream’s webinar series, ETF Ecosystem Unwrapped, entitled Bond ETF Discounts: Cause for Concern?, Meyers (pictured) argued there is a lack of transparency throughout the fixed income space which is causing issues for the market.

The move to a more electronic environment where trades are reported transparently in Europe, he stressed, would be beneficial for both investors and the liquidity providers pricing the bonds.

“The bond market is one of the most archaic environments in the financial industry,” he added. “It is based on old school market thinking where trading is not as electronic and more based on negotiations.”

The lack of transparency and liquidity across bond markets, he said, has been a key reason why ETFs have traded at wide discounts to net asset values as markets plummeted following the rapid spread of coronavirus.

According to research from Citi, 80% of investment-grade corporate bond ETFs traded at all-time high discounts amid the volatility in March.

Critics have argued that ETFs provide an “illusion of liquidity” by offering easy access to illiquid parts of the market.

However, Meyers explained the discounts were due to the way “stale” NAVs were calculated in comparison to the intraday pricing ETFs offered.

In normal market conditions, the NAV and the ETF price will usually trade in line with each other however when liquidity vanishes these discrepancies appear. This is because the NAV is calculated at the end of the day by a calculating agent based on a certain methodology that might not reflect the real value of the underlying bonds at that time.

“In volatile circumstances, NAVs can move away from the true price of the underlying assets. However, with ETFs, liquidity providers are pricing what they believe to be the real value of those bonds in the basket if they would trade. So the ETF trades intraday at the right price, it is the NAV that is stale and disguising".

Analysing Europe’s five largest fixed income ETFs during the coronavirus pandemic

He highlighted the price discovery role ETFs play referencing Citi research that found just 240 US corporate bonds out of the 21,000-security universe traded on a daily basis.

“This gives you an idea of what a market maker has to do when calculating what an ETF is worth,” he continued. “All a market maker is doing is reflecting the value of the underlying market in an ETF’s price.”

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