PIMCO says let investors trade Treasuries with each other

PIMCO is advocating a radical solution to fix the liquidity woes plaguing the world of bonds: The entire $23.7 trillion Treasury market should move to a model where investors can transact directly with each other — reducing their unhealthy dependence on balance-sheet-constrained banks.

Among other suggestions, a report from the nearly $2 trillion asset manager urges Janet Yellen's Treasury Department and other regulators to help create alternative avenues that would allow traders to find buyers and sellers when the primary dealers who normally handle large orders are unable to do so.

"We would like the entire Treasury market to move to all-to-all trading — a platform where asset managers, dealers, and non-bank liquidity providers are able to trade on a level playing field, with equal access to information," wrote PIMCO's Libby Cantrill, Tim Crowley, Jerry Woytash, Jerome Schneider and Rick Chan. "The vast majority of the bond market, including most parts of the Treasury market, liquidity remains intermediated, making the market more fragile, less liquid, and more susceptible to shocks."

With liquidity deteriorating amid this year's historic selloff, the likes of PIMCO argue the world's largest bond market remains just as vulnerable to dislocations today as during the dark days of 2020. Some are therefore calling for the role of non-banks to be ramped up, a move that would likely diminish the standing of the big dealers who currently dominate trading.

Among the bond giant's wishlist: the easing of regulations on banks to improve the market-making capacity of primary dealers — an oft-touted demand on Wall Street — and the broadening of access to the Federal Reserve's support tools, including its standing repo facility and bond-buying program.

But boosting the role of all-to-all-trading platforms is arguably the most disruptive call. Enhancing the ability of the buyside to trade directly with other market participants of all stripes would give more power to asset managers like Newport Beach, California-based PIMCO. And it would undercut primary dealers like J.P. Morgan Chase & Co. and Bank of America Corp., who've managed to maintain their grip on market making.

While the idea has been floated for a while now and some all-to-all trading does take place in the Treasury market, it's only gained material traction in the world of corporate bonds. For example, OpenDoor Securities, which tried to bring Treasury buyers and sellers directly together, shuttered its trading platform after just a few years. Most government debt trades don't go through a central clearinghouse, making it harder for startups to break into the market.

Yet with Treasury debt ballooning by about $7 trillion since the end of 2019, Wall Street firms, former officials and academics are unified in their belief that the size of the marketplace has outstripped the capacity of dealers. All that has fueled a wide range of distortions, such as elevated bid-ask spreads, while adding to troubles with the 20-year bond.

Bond markets globally have been struggling to deal with the rapid expansions in issuance and in central bank purchasing programs that came during the pandemic. Bloomberg's liquidity gauge for Japanese government bonds last week came within a whisker of matching levels seen in June, when massive buying from the Bank of Japan to cap yields created the worst trading conditions in more than a decade.

The MOVE index of implied volatility for Treasuries — often referred to as the bond market's fear gauge — held this week above 120, a level only exceeded during the pandemic panic of early 2020 over the past decade.

Meanwhile the U.S. Treasury has just completed a round of public-information gathering on whether more transparency on data would be a plus. Many firms advised the department to adopt public reporting that mirrors the practices in corporate bonds. In that market, transactions are generally disclosed in 15 minutes or less, unlike in Treasuries, where aggregated volume data is published only on a weekly basis. Yet most market participants still don't see more robust data publication as the key fix for liquidity.

Instead, former Treasury Secretary Timothy Geithner is among those calling for the Fed and other regulators to broaden who can access the standing repo facility, a permanent mechanism for providing short-term financing to financial institutions through repurchase agreements. That way, more market players would have access to this crucial backstop.

That, in addition to nurturing the development of all-to-all trading platforms, is a pitch that the five PIMCO fund managers in this latest report are getting behind. The firm says the Treasury market functions well, "until it does not."

"Rather than limiting SRF participation to primary dealers and a handful of depository institutions, policymakers should consider including asset managers, sovereign wealth funds, and other large institutions," the PIMCO managers said. "Without these changes, we believe Treasury market liquidity will again disappear during bouts of turbulence, ultimately leaving investors and the U.S. government exposed."