In the boldest entry yet to the already-crowded field of electronic trading platforms for municipal bonds, MuniGroup.com -- a new strategic partnership linking Goldman, Sachs & Co., PaineWebber Inc., and Bear, Stearns & Co. -- today will unveil an online municipal bond trading system that will feature those firms' sizable tax-exempt inventories.
In the system's key innovation, potential buyers will be able to compare competing offerings of the same bond side-by-side on a commingled screen. They will not be able to see which dealer is seeking which price.
The new entry is hoping to quickly become a dominant player in the infant industry. Organizers predict that its founding partners' huge inventories and established sales forces will help them build an efficient marketplace that will, in turn, spur other dealers to join the venture.
From there, they believe success will breed success, with additional participants' inventories increasing the market's efficiency and its appeal to new members.
The system's founders say they expect to primarily deal in block sizes and issues geared for sales to individuals, with each firm listing the portion of its holdings that would appeal to that audience. Retail brokers are expected to be the principal buyers, although the firms will reserve the right and the ability to allow their customers to access the marketplace directly, or to channel access through a central committing desk.
Joining the Wall Street firms as founding partners are trading-and-clearing firm Spear, Leeds & Kellogg, Pennsylvania-based municipal hedge fund Susquehanna Partners, and technology provider BondDesk.com.
"MuniGroup effectively is taking the fragmented municipal market and creating a central marketplace with open participation from all of the broker-dealers," said MuniGroup chief executive officer Connie K. Duckworth, who left her post as co-head of the municipals department at Goldman to lead the new venture.
Any participating broker-dealer will be able to contribute inventory to and distribute inventory over the system, and from the outset, any of the 1.5 million outstanding municipal Cusips can trade over the system.
"If you are a contributor, you tend to distribute through your proprietary sales force," said MuniGroup president Bradley W. Wendt. "If you become a participant of MuniGroup, all of a sudden a very broad distribution network is open up to you."
MuniGroup's model is open to all broker-dealers and derives its revenue from fees charged on each transaction, with sellers paying a per-bond charge and buyers paying a flat fee per trade. Therefore, the site will become increasingly profitable as more firms sign on and conduct business. Duckworth and Wendt declined to elaborate on costs, although they said users would receive a discount when dealing in their firms' own inventories, which will be highlighted on the system for easy identification. Users will not know the source of any bonds from outside their own inventories. Muller Data Co. will provide pricing evaluations for system users.
THREE-IN-ONE
The site's marketplace actually consists of three separate tools -- an electronic communications network, an odd-lot auction, and an "e-syndicate aggregation product."
Dealers will post live and executable offerings on the ECN, where retail brokers will be able to view the competing offers from different shops on the commingled screen.
The auction product, meanwhile, is an open and standardized mini-auction for odd-lots where the best price is shown and a seller can execute or pass.
Finally, the aggregation product provides those broker-dealers not in an underwriting syndicate access to new-issue securities -- allowing management of individual orders and order routing to the book-running manager.
Though MuniGroup is based at Goldman's worldwide headquarters, the firm retains an arm's-length relationship to the project. All participating broker-dealers will be on the same standing when executing trades.
The system -- a private-label business-to-business solution -- can be deployed at any one of three levels within a firm: on the committing or sales liaison desk, on the broker's desktop, or at the retail-client level.
Duckworth believes the trend toward direct ownership of municipal bonds by retail investors will benefit MuniGroup, which provides an efficient way for broker-dealers to locate bonds for retail clients.
"I think issuers have to be really excited about this, because it broadens the depth of the market for their securities and that is ultimately reflected in price," said Daniel L. Keating, senior managing director and head of public finance with Bear, Stearns.
Even traders at firms that are not participating in the system said they were intrigued by the idea and would watch it closely. Under the terms of a nondisclosure agreement signed with MuniGroup, the names of the venture's partners as well as details about the initiative could not be disclosed to industry professionals before today. As a result, their reactions are based on a general knowledge of the concept and its potential impact on the industry.
"The market is starving for some sort of centralized exchange where volume can accumulate more transparently," said Bill O'Keefe, managing director in charge of sales and trading for Morgan Stanley Dean Witter. "Most people would be suspicious of a site owned by dealers but if there is some sort of neutral marketplace where they didn't have access to proprietary pricing I think that would work."
MuniGroup is currently waiting for regulatory approval from the National Association of Securities Dealers and hopes to launch the system in early April.
Industry professionals say that while the general concept sounds feasible, the key to its success will be achieving "critical mass" in terms of participation by broker-dealers, and MuniGroup is just one of many fighting for the loyalty of retail intermediaries in this brave new online world.
Players noted that the success of any system is largely dependent on the strength of the partners backing it, noting that the differentiating factor between the numerous systems being developed are the number of players committed to making it work.
"Everybody has generally the same idea with a slightly different twist," said the head of a committing desk at an institutional Wall Street firm. "It will be interesting to see who achieves critical mass -- meaning participants -- first. That is the key determinant to success."
Ann Kaplan, head of Goldman's municipal division, said that her firm and other broker-dealer firms will contribute, on day one, the amount of inventory appropriate to make MuniGroup.com a very viable new marketplace. Any bond suitable for a retail investor is eligible to be listed on the system, but it is ultimately up to each broker-dealer which bonds in its inventory are shown.
According to rough estimates there are more than 40 trading systems for the municipal market in different stages of development. That number could decrease as a result of today's announcement, said Myles Harrington, president and co-founder of MuniAuction.
"I think it means there is going to be a shake-out," he said. "The market will not support 40 systems, and this latest announcement means many start-ups will find it difficult, if not impossible to find venture capital. They will disappear almost immediately."
One player likened the development of online trading in municipals to the development of the automobile industry, where three major players overshadowed numerous smaller competitors and ultimately came to dominate.
Duckworth and Wendt began work on the system roughly 12 months ago, when both were still in so-called bricks-and-mortar jobs at Goldman -- Duckworth as co-head of the municipal bond department and Wendt as the leader of the derivatives area.
Duckworth officially stepped down as municipal division co-head at the end of Goldman's fiscal year on Nov. 30, but actually began the transition well before then.
During the development phase, when Duckworth and Wendt were debating how to connect municipals and the Internet, the two sat next to each other at a meeting at which America Online chief executive officer Steve Case was speaking.
"Steve said your competitors become your partners going forward, and any thought of having this be a proprietary system focused on one firm just fell by the wayside," Wendt said.
MuniGroup has an exclusive license to BondDesk.com's technology and is responsible for the development of the tax-exempt side of BondDesk's business. Because BondDesk's technology also supports taxable fixed-income products, MuniGroup is able to offer what it calls a "complete fixed income solution" to participants.
And while some dealers have lamented the thinner margins that are a byproduct of an increasingly efficient market, others see opportunities the changes.
"I don't want things to stay the way they are," Morgan Stanley's O'Keefe said. "Municipals are not a vibrant marketplace in terms of access to and visibility of the product. You have to be prepared to destroy your own business model to take advantage of some of the new opportunities."
