Securities Law

ATS Firms Mull Effect of SEC Plan

WASHINGTON — Pre-trade reporting of muni-bond offers and bids by so-called alternative trading systems could improve liquidity in the $3.7 trillion municipal market. Or, it could make liquidity worse.

In recent interviews with The Bond Buyer, firms that operate ATS — the electronic marketplaces where dealers buy and sell munis — reacted differently to the Securities and Exchange Commission’s July 31 market report, which recommended that they be required to publicly distribute the best offers and best bids submitted by dealers for muni bonds.

The SEC said the Municipal Securities Rulemaking Board should consider updating its online EMMA system to make the data public.

The report also recommended that ATS and brokers’ brokers, which trade exclusively with other brokers, disclose best-priced bids from “bid-wanted auctions” at the end of the day.

Brokers use the auctions to sell munis for retail clients.

Such requirements could promote competition, enhance market efficiency and help ensure retail traders receive fair prices, the report said. While ATS’ process a small percentage of muni trade volume, the SEC noted that the systems handle between 30% and 50% of the number of trades, many of them retail orders.

SEC commissioner Elisse Walter, who spearheaded the report, defended the pre-trade pricing recommendations, saying that investors nearly always benefit from transparency. But some market participants urged the agency to tread cautiously.

“The concern is, you don’t want to drive spreads too tight, which would drive out market participants and could make the market more illiquid,’ said Tom Vales, president and chief executive officer of TMC Bonds LLC, one of the four primary ATS operators.

Others include BondDesk Group LLC, Knight BondPoint and Tradeweb Markets LLC. Although ATS’ are primarily used by dealers, retail investors who have online accounts with some major electronic brokerage firms can also access the data.  But Vales agreed that the SEC’s recommendations could benefit the market if they help make munis a more attractive product to trade.

“Properly done, [the SEC] will bring more capital to the marketplace,” he said.

Marshall Nicholson, Knight Bondpoint managing director, called the commission’s proposal “worth exploring,” but shared Vales concerns: the SEC must be careful not to “hinder market liquidity.”

He called the muni market “dealer-driven,” noting that dealers typically buy and hold munis in their inventory. Disclosing pre-trade prices could diminish firms’ financial returns, leading some to exit the muni market, he warned.

Walter said she wants to hear from market participants, but maintained that transparency benefits capital markets.

“I am always concerned about arguments that say, ‘Keep information away from investors because bad things will happen,’” she said. “Keeping information from investors is ... virtually always a bad idea.”

BondDesk CEO Kim Bang expressed optimism at the SEC’ recommendations.

“We favor full transparency, which we think will drive competition and result in better end-pricing for investors, and activity will pick up,” he said.

Bang said the market is “internalized,” with liquidity concentrated among a few large dealers. Improvements in pre-trade price reporting, and disseminating ATS data to the public, could increase competition. That could mean better prices for retail traders, increased trading and, ultimately, improved liquidity, he said.

“The more you open up ATS’ ... [the more you] drive liquidity,” Bang added.

The executives noted that their predictions are preliminary; the ultimate market impact will vary based on details of the specific SEC proposals, they said.

ATS operators also said pre-trade data may have limited value to retail investors.

Nicholson said the “concept of a best offer” isn’t the same in the muni market as in the corporate equity market. Secondary market munis trade infrequently and offers on those bonds are relatively sparse, he said. For instance, Knight BondPoint typically posts some 35,000 bonds on its system — about 2% of the roughly 1.5 million of municipal bonds outstanding.

“It’s difficult to understand what utility [a best offer] provides to the market,” Nicolson said.

Vales agreed. “There is [typically] only one dealer making an offer” on a particular bond, he said. “There is no other depth to check the value of that information.”

The report also recommends that the MSRB encourage or require dealers to tell retail investors prices at which a municipal security, or comparable security, recently traded. It suggests dealers give retail customers yield spreads and current quotes and bids. It urges the board to publish interpretive guidance to help dealers determine if a price is fair and reasonable.

The MSRB did not respond to a request to comment.

Vales called those recommendations the “meat of what the SEC is proposing.” He questioned whether dealers might eventually be required to conduct bid-wanted actions for the munis they sell. Such requirements could be costly and time-consuming, and could change “how the market operates,” Vales argued.

Mike Nicholas, CEO of Bond Dealers of America, said his group supports transparency but he questioned the usefulness of pre-trade pricing data. He noted that ATS prices are paid by dealers, which is not prices that retail investors can expect to pay.

Nicholas urged policymakers to study whether additional reporting “will actually result in an increase in the amount of meaningful information available to the retail investing community, or whether such data could be subject to misinterpretation.”

Michael Decker, co-head of munis at the Securities Industry and Financial Markets Association, said only that the group is reviewing the recommendations and “supports reasonable initiatives to improve market transparency and liquidity.”

Walter called industry concerns premature, noting that the SEC has not yet issued guidance related to the recommendations.

She also emphasized the important role ATS’ play in the market, and said, “More attention needs to be paid to whether or not some of the value can be passed on more directly to investors.”

Walter also noted that earlier concerns by dealers about the impact of price reporting on liquidity proved unfounded.

Dealers made the liquidity argument prior to being required to report post-trade prices of corporate bonds to the Financial Industry Regulatory Authority’s Trade Reporting and Compliance Engine, orTRACE, which was implemented in 2005.

In addition, municipal bond dealers said liquidity would suffer from reporting muni prices on a near real-time basis to the MSRB’s Real-Time Transaction Reporting System, Walter said.



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