Corporate bonds: developing the secondary market through electronification
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1 May 2015Arin Ray
Corporate bonds have become a popular vehicle of investment in recent years.
- In the developed world a key driver of growth has been the low interest rate regime persisting in some markets which has made many companies issue new bonds at a relatively low cost of borrowing. Potential for higher returns from these bonds makes them a lucrative proposition for many investors, particularly institutional investors like pension funds and insurance companies.
- In the emerging markets, buoyed by long term growth opportunities companies have been issuing bonds to raise funds from global and local investors for over a decade now. While the activity in the primary market – where sales of new bonds by issuers to investors take place – has been growing steadily, the secondary market – where trading of such bonds take place among different types of investors (and market makers) – has been an issue of concern.
- Buyers of corporate bonds, particularly those in the emerging markets, typically hold on to them till maturity. This means the pool of securities available for sell in the secondary market is not very deep. The resulting illiquidity means the cost of trading (bid-ask spread) in the secondary market can be substantially high, especially compared to other asset classes like equities or FX.
- The problem is exacerbated by the lack of standardization among issued bonds. Different corporates issue bonds at different points of time with varying tenors and coupon rates purely based on its specific requirements. Even the bonds issued by the same company at different points of time can have different terms, unlike that seen in case of equities.