JP Morgan, Citibank and Credit Suisse have set up new online portals that allow their clients to trade mortgage bonds without having to involve any capital of their own.
The so-called match-trade platforms are aimed at making risky mortgage bonds more liquid and easier to trade in the face of tougher regulations put in place after the financial crisis.
But while regulators are pleased to see the banks keeping their balance sheets clean, the buyside has given the platforms a less than enthusiastic welcome.
“It’s really a way for dealers to facilitate trading,” said John Kerschner, global head of securitized products at Janus Capital Group.
“The problem is, they are not putting their own capital to work.”
New regulation since the crisis is forcing Freddie Mac and Fannie Mae, two of the biggest owners of US residential mortgages, to offload the risk via credit risk transfer (CRT) bonds.
Yet new capital rules also make it much more expensive for banks to keep such bonds on their trading books, as they must now hold one dollar in reserve for each dollar of the bonds owned.
The result has been a much less liquid market that has limited trading in the bonds – something that the online portals are intended to address.
“Looking at credit risk transfer, the challenge for large investors is one of liquidity,” Kevin Chavers, a managing director at BlackRock, told a Washington conference on Tuesday.
“There is not a lot of market-making in the space.”
Harder now
A decade ago, when trading desks were the cash cows of large investment banks, securities dealers would often step in with their own balance sheets to anchor an uneven market.
That provided investors with a confidence that is often lacking in the aftermath of the financial crisis, leaving the buyside unwilling to dip into riskier securities.
According to the Bank for International Settlements, overall risk tolerance has been eroded by the financial crisis, especially when it comes to less-liquid investments.
“We see signs that market liquidity is increasingly concentrating in the most liquid securities, while conditions are deteriorating in the less liquid ones,” it said in March.
Meanwhile Fannie Mae and Freddie Mac have sold some US$22bn of CRT bonds in the past two years, and are bundling increasingly lower quality mortgages into the newer deals.
The government agencies have already nearly reached their annual target of offloading a combined US$270bn of mortgage risk through CRT bond issuance in July.
But they will have to do the same next year and, not surprisingly, have welcomed the banks’ new online portals.
“The match-trade platforms are positive for the STACR market,” Mike Reynolds, a director overseeing Freddie’s Structured Agency Credit Risk (STACR) program, told IFR.
New method
JP Morgan and Citibank began showing Freddie and Fannie CRT bonds through their portals a few months ago, while Credit Suisse has shown pre-crisis commercial mortgage securities.
So far trading has been limited. As one portfolio manager put it: “I think there is some interest, but everyone is loath to do something new.”
And to some extent, that explains the Catch-22: the buyside is reluctant to try a new method, which makes the banks hesitant to devote much money to developing the portals.
But a person familiar with the thinking at one of the three banks told IFR that the match-trading is starting to catch on after several months of trials with the most liquid bonds.
“It’s still new,” the person said.
