Canadian Finance Blog

Mr and Mrs Canada and the Fixed Income Klondike

Posted: 04 Apr 2011 02:00 AM PDT

Concern for man and his fate must always form the chief interest of all technical endeavours. Smart man, Albert Einstein. But is it naive and optimistic to apply such a mantra to the world of business, or perish the thought the financial markets? Well, in a word, when we are thinking about the fate of Mr and Mrs Canada and their hard earned retail investments, yes.

Soaring prices and sinking yields are hammering RRSP accounts, rainy-day/blow-it-in-Vegas tax-free savings and that RESP for little Johnny. It's pretty clear that retail investors are struggling to get a fair shake on their transactions. What's more, as new, dark and grey pools of liquidity pop up more frequently than the morning toaster, heightened complexity underlines the fact that this really isn't a market for the little man. The big guys are (still) winning. However, let us not generalize. In the world of equities, the National Best Bid Offer (NBB0) protocol has gone some way in levelling the playing field with price transparency, an open market and ultimately a better chance for the retail investor. And, the success and ambitions of Joe Public, equities trader, have grown substantially over recent years. However if we are talking about complex and opaque liquidity, we're in a different league when it comes to fixed income.

Historically a small number of Bay Street traders have maintained a Vulcan death grip on the trading of over-the-counter fixed income instruments. They can name their price and punish the little guy for his lack of size as intensely as almost every team in the NHL hammers the Maple Leafs.

I give you the bond market: totally dark and a million times more fragmented than equities. It's growing fast but there's no transparent auction market, no access to prices and pretty much all trading conducted 'upstairs.' It resembles nothing so much as a frontier town during the gold rush before the Mounties rode in. Meanwhile, shut off from the horse-trading back-room saloon deals, Mr and Mrs Canada – along with their cousins Monsieur and Madame EU and the Jones' down in the US – are facing levels of inequality between institutions and retail investors not seen since David squared up to Goliath.

We don't need an outbreak of giant-killing. But let's give retail investors some ammo for their sling. An open market for fixed income is a first step – greater transparency being that well-known antidote for unfairness. What we need is equal and open access, this is Canada after all….

Fragmentation: a call to innovation

There is an argument doing the rounds that the fragmentation caused by new trading venues has actually created less efficient marketplaces, which seems odd when you think back to your economics major and recall that competition and efficiency were supposed to come hand in hand. And, you don't even need to be witness to the vast fragmentation that has taken root in the US to risk falling foul of the same oddity. It's the same story in Canada.

However as ATSs absorb the increased flow from the rash of HFTs that have begun to multiply, they are adding value to the marketplace: the real question is are they adding enough to justify the effect they have had on the everyday cost of trading? And exactly where are these extra costs being allocated by dealers? Do the big guys pay their share of the growing tab or does the unsuspecting maple-syrup maker in Sunderland, Ontario building up his modest investment account carry most of the burden?

What have the ATSs actually done for him? Everything seems to happen the same way for retail investors as it did 10 years ago, except it just costs more. If the mandate of allowing ATSs to operate was to raise costs and provide little benefit to the little guy, then mission accomplished!

It's unlikely that this was really the goal, so why are ATSs here? I think the answer is to innovate and bring new services and fresh ideas to market. Such behaviour may fetch new customers: faster matching engines and swift reporting technology will beat the competition to the punch. Through innovation we may see things that will help regulators accomplish some of their goals too, like transparency for transactions where none existed before, and real-time prices that are not just a dirty little secret for select traders. We might even see things that trade in other parts of the world locally with a unique Canadian flavour, nipping in the bud formerly inflated FX spreads and offering more options to the Canadian investor in the process.

Keeping the status quo is not a long term option for the Canadian marketplace if it expects to protect investors and throw open its doors to the rest of the world. While our down-south neighbour tries to clear up its financial mess, we have become one of the few beacons of financial stability in the world. Score one for the hosers! Now is the time for the Canadian marketplace to stand up and be counted. As the world beats a path to Canada's hockey loving door, it is time to prove our worth through innovation above all else. But let's not forget our maple-syrup makers along the way.

Author Bio: This guest post was written by Mike Bignell. As current President and CCO of Omega ATS, Bignell's executive management and strategic direction has resulted in volume increases of 750% over the past year.

Mr and Mrs Canada and the Fixed Income Klondike originally appeared on Canadian Finance Blog on April 4, 2011.

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