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OPINION

Regulator forces bonds into equity straitjacket

When three industry trade bodies join forces to issue a joint statement in response to regulatory proposals it’s clear that they are taking the matter very seriously.

In remarkably strong terms, the International Capital Market Association, the International Swaps & Derivatives Association and the Bond Market Association have come together to reject a key element of the Financial Services Authority’s proposals on implementing the EU’s Markets in Financial Instruments Directive (Mifid) best execution requirements. The proposal covers implementation of a benchmarking system. The UK regulator, without any prior consultation with trade bodies, got IBM to come up with a methodology. The idea is that dealers would use a benchmark price in a particular product to which an appropriate spread would be added, thus providing proof to a client of best execution.

Unfortunately this proposal is not only impracticable and likely to prove expensive for the industry but would probably also require significant change to market practices. The likely effect would be a withdrawal of liquidity in markets that are actually functioning healthily.

The concept of a benchmark price is a difficult one to pin down. In most fixed-income markets there is not a single true price for a product at a particular time, except for the most liquid markets, such as exchange-traded futures. Establishing a benchmark is far from straightforward in over the counter markets and the bond market is largely OTC.

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