SIFMA Vice President Randy Snook Advocates Improvements in Fixed Income Market Structure (with Lofchie Comment)

SIFMA Executive Vice President Randy Snook discussed issues impacting fixed income market structure and liquidity and "market-based" solutions. He delivered his remarks at the SIFMA Fixed Income Market Structure Conference.

Mr. Snook explained that not all liquidity issues can be attributed to regulation. He advocated for market-based solutions to enhance liquidity and promote transparency in capital markets. He mentioned that PWC was undertaking a study regarding market liquidity, which may provide "a more comprehensive review of how our markets are functioning and how many aspects of regulatory reform have directly or indirectly impacted liquidity," through the lens of end-users such as issuers and investors.

Mr. Snook asserted that "regulations have put significant upward pressure on trading costs." He also stated that there are also "notable signs of liquidity bifurcation," with liquidity directed at the more liquid securities and less liquid securities "becoming even less so." Mr. Snook called on regulators to assess cumulative impacts of regulations on market liquidity before any new regulations are enacted.

Lofchie Comment: It is not so obvious that the regulators have made the markets safer by their imposition of much heavier capital requirements, combined with greater burdens on the purchase of illiquid assets. Consider, for example, two banks operating in two regulatory environments: one bank has capital equal to 16% of assets, beating a regulatory requirement that it have capital equal to 15% of assets. The other bank has capital equal to 14% of assets, beating a regulatory requirement of 10%. It may appear that the first bank is safer, stronger and better regulated than the second, but in a market crash, the first bank is going to have to start selling assets very quickly, potentially exacerbating a market-wide liquidity crisis. By contrast, the second bank has capital room to spare, and thus the potential to be an opportunistic buyer in a market downturn, potentially heading off a liquidity crisis.

The above example is simply to make the point that there is not a direct, straight-line relationship between heavy capital requirements and market stability; in fact, it is very possible for the relationship to move in opposite directions. In short, by attempting to limit the risk at each individual firm, it is possible to synergistically increase the risk in the market as a whole.

See: Mr. Snook's Speech.
Related news: SIFMA President Randy Snook Advocates Improvements in Equity Market Structure (May 7, 2015).