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Capital Markets

Debt trading: Bumper profits mask real state of market

The debt trading markets are in much better shape than anyone might have thought possible at the start of 2009. They say the time for agency brokers might already have passed. But liquidity remains limited and banks are reluctant to commit capital. Will the recovery continue? Hamish Risk reports.

"THIS YEAR HAS been the nirvana for fixed-income trading," says Iain Baillie, head of Christopher Street Capital, a credit agency broker in London. "You’ve had a rally in credit assets across the board, a limited amount of liquidity, and a wide bid-offer."

With a taxpayer-funded stimulus priming its engine, fixed income has been brought back to life. Primary debt markets have been resurgent, surpassing all previous records for new issuance in Europe. Secondary markets, which ground to a halt in the dislocation of 2008, are returning to pre-crisis volume levels, at wider bid-offer spreads. A year ago, bid-offer spreads quoted on the iTraxx Crossover (high-yield) index were quoted as wide as five basis points, before compressing to today’s level of 2bp. Pre-crisis the spread was sometimes less than 1bp.

That fragmentation manifested itself into few banks being willing to take on market risk, or offer market liquidity to their clients, resulting in wider bid-offer spreads that quickly ground secondary market activity to a halt. Meantime the more highly liquid derivatives markets, such as interest rate swaps and credit default swaps, became fraught with concerns about counterparty risk and distortions in the short-term money markets. New entrants, such as agency brokers like Baillie’s, joined the fray to attempt to fill the liquidity vacuum.

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