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This received’t be information to regular Alphaville readers, however portfolio buying and selling in fastened revenue has morphed over the previous few years from cool new pattern to large phenomenon. The affect is changing into starker by the day.
Final week Barclays printed some attention-grabbing new analysis on the topic, with a sign-off paragraph that underlines why it is a huge deal:
ETFs, systematic credit score, and portfolio buying and selling will doubtless create a virtuous cycle of liquidity. ETF issuers have began including extra granular merchandise that observe a specific phase of the credit score market, akin to maturity or ranking. One doubtless implication of the expansion of those area of interest ETF merchandise is the era of extra buying and selling demand within the underlying company bonds from ETF managers that want the bonds to trace their benchmarks. This might spill over to systematic credit score by increasing the universe of bonds over which fashions scan for funding alternatives, creating demand for brand new volumes. Portfolio buying and selling can ship that liquidity in a fast cost-effective manner, making systematic and issue methods extra possible. Because the obstacles to entry lower, it ought to be simpler for brand new systematic traders to deploy capital, which is able to in flip would add volumes to the market. Due to this fact, we anticipate each systematic credit score investing and portfolio buying and selling to proceed to develop collectively.
However maybe we must always begin with an evidence for individuals coming chilly to the topic: Portfolio buying and selling is when somebody buys or sells an enormous and broad batch of shares or bonds in a single go.
In equities this has been a humdrum factor for many years, however in company debt it has all the time been difficult, given how idiosyncratic every bond could be and the way they’ve traditionally traded individually by telephone.
Nevertheless, that’s altering due to the emergence of higher pricing algorithms that allow banks and buying and selling retailers worth swaths of bonds shortly and precisely; the fast development of electronic trading in company debt; and the seismic credit ecosystem shake-up caused by bond ETFs.
Buyers love this as a result of it permits them to deploy billions of {dollars} shortly right into a consultant slice of the fixed-income market, or to boost cash shortly by promoting lots of (typically even 1000’s) of particular person bonds in a single swoop. For the primary time, you may effectively commerce the company debt market as an entire with out utilizing derivatives.
Simply how a lot they love that is highlighted by this new report from Barclays. The UK financial institution’s thematic fastened revenue analysis crew led by Zornitsa Todorova estimates that a portfolio commerce now hits the tape on common each seven minutes.
That’s twice final yr’s tempo and up 10x from 2018. And that’s simply within the US.
Portfolio trades are additionally chunky in dimension. Between the start of January and the tip of October, US portfolio buying and selling hit $1tn, which is already comfortably a file.
If the present common month-to-month quantity of about $100bn stays at that stage the 2024 whole will probably be $1.2tn, twice final yr’s whole. Portfolio trades now account for a fifth of all dealer-to-client exercise — ie, between banks and asset managers and traders — up from mainly zero earlier than 2018.
Right here’s how that breaks down by funding grade and excessive yield.
Portfolio buying and selling explains why there’s been a surge in US company bond buying and selling this yr, regardless of the shortage of volatility that usually causes spurts of shopping for and promoting, Barclays reckons.
The common dimension of a portfolio commerce stays round $50-60mn, and the overwhelming majority of the person chunks being included are smaller than $5mn. However, based on Barclays, the common variety of bonds being traded has greater than doubled since 2018 to 110 line gadgets.
There are additionally extra “mega PTs” with over $500mn being traded, which have accounted for 23 per cent of all exercise in 2024. These usually occur on the finish of the buying and selling day — in all probability due to their shut ties to ETFs, that are an important issue within the rise of portfolio buying and selling (as a result of you may change a consultant slice of bonds for shares within the ETF).
Tellingly, portfolio buying and selling additionally spikes on the finish of each month, when many index funds will rejig their portfolios to mirror benchmark adjustments, and bigger institutional traders like pension plans will make allocation adjustments.
Portfolio buying and selling additionally appears to be ameliorating a few of the liquidity issues which have blighted the fastened revenue markets. As Barclays notes:
Our evaluation reveals that many traders use portfolio trades to transact in much less liquid bonds. We discovered that bonds traded in PTs are on common 15% to twenty% much less liquid in comparison with the common bond traded available in the market (as measured by Barclays LCS, greater LCS signifies greater transaction prices and therefore, decrease liquidity). Nevertheless, traders very not often commerce solely illiquid bonds in the identical portfolio. The rationale why portfolio buying and selling works for illiquid bonds is as a result of traders mix a small share of illiquid bonds with liquid bonds in the identical basket, successfully crowd-sourcing liquidity.
This appears to have had an nearly magical affect on these less-traded bonds. The share of US investment-grade company bonds that haven’t traded a single time in a month has fallen from about 3 per cent a decade in the past to nearly zero at present.
It’s onerous to say for positive, however Barclays reckons that that is principally due to the expansion of portfolio buying and selling.
The timing of the drop coincides with the introduction of portfolio buying and selling and its magnitude is aligned with the quantum of bonds that solely commerce in portfolio buying and selling. Whereas this can be very troublesome to exactly attribute the route of causality, we imagine our outcomes strongly counsel that within the absence of portfolio buying and selling, some bonds would have traded much less or wouldn’t have traded in any respect as a result of it will have been very costly to take action.
Does this imply that folks will cease worrying about bond market liquidity? No, of course not. Nevertheless it in all probability means we are able to fear lower than we used to — or at the least fear extra about what occurs to credit score markets once they more and more resemble fairness markets.
