Europe's debt market strains are forcing some governments to overhaul trading rules

Europe’s debt market strains are forcing some governments to overhaul trading rules

Oct 31 (Reuters) – Some euro zone countries have eased rules for banks that handle trading in their sovereign debt to help them weather some of the most challenging market conditions in years, officials told Reuters.

Of 11 major eurozone debt agencies contacted by Reuters, officials in the Netherlands and Belgium told Reuters they have eased various market-making obligations that dictate how actively these banks must trade their debt.

France, Spain and Finland said their rules are already structured to automatically take market tensions into account. Germany and Austria said they do not specify such rules.

As the European Central Bank winds down years of buying the region’s debt, while the war in Ukraine, an energy shock and turmoil in Britain make investors wary of loading up on government bonds, debt managers are adapting to a less liquid, more volatile market.

That, in turn, could raise borrowing costs for governments, already squeezed by rising interest rates and energy-related spending, and create more uncertainty for institutions, such as pension funds, that seek safety and stability in the sovereign debt.

Eurozone public debt, the difference between what buyers are offering and sellers are willing to accept and a measure of how smooth trade is, has quadrupled since the summer of 2021, data compiled by MarketAxess ( MKTX.O ) for Reuters showed. The data tracked German, Italian, French, Spanish and Dutch bonds, markets that account for the vast majority of eurozone debt with nearly 8 trillion euros outstanding.

Bond bid-ask spreads are rising


Wider spreads mean more volatility and higher transaction costs. So governments expect, and some formally require, their primary dealers — banks that buy government debt at auctions and then sell to investors and manage their trades — to keep them tight.

In markets with formal requirements, they also face other “quotation obligations” to ensure the best possible liquidity. These obligations have been eased in some countries to take account of increased market stress.

Jaap Teerhuis, head of the dealing room at the Dutch Treasury, said several of its quota obligations, including bid-ask spreads, had been loosened.

“Volatility is still significantly higher compared to pre-war (Ukraine) and also ECB uncertainty has also led to more volatility and more volatility makes it harder for primary traders to follow,” he said.

Liquidity has decreased since the end of 2021 when traders began anticipating ECB rate hikes, Teerhuis said. The Netherlands then eased its citation obligations after the invasion of Ukraine.

Belgium’s quota obligation also moves with changes in terms of trade. But it has relaxed since March the rules on how many times per month dealers are allowed to fail to comply with them and has also reduced how much dealers must quote on trading platforms, its debt agency chief Maric Post said.

The two countries also eased the rules during the covid-19 pandemic. Belgium’s post office said it only lasted four months in 2020, but it has kept its obligations looser for much longer this time around.

Finland said it has not changed its rules, but cannot rule out action if conditions persist or worsen.

Outside the bloc, Norway has also allowed dealers to set wider bid-ask spreads.

In Italy, debt management chief Davide Iacovoni said on Tuesday it was considering adjusting the way primary traders are rated each year to encourage them to quote tight spreads. Such rankings can affect which banks get to take part in lucrative syndicated debt sales.

Debt offices where obligations adjust automatically said attempts to enforce predetermined bid and ask spreads in volatile markets would discourage primary dealers from providing liquidity and cause more volatility.

“If the market is too volatile, if it is too risky, if it is too expensive, it is better to adjust the bid to the reality of the market than to force liquidity,” France’s debt chief Cyril Rousseau said at an event on Tuesday. .

Britain’s sell-off in September highlighted how liquidity can evaporate quickly in already volatile markets when a shock occurs. In that case, the government’s big spending plans triggered big moves in debt prices, forcing pension funds to resort to fire sales of assets to meet collateral requirements.


Allianz senior economist Patrick Krizan said with bond volatility approaching 2008 levels, a fragmented safe-haven market was a concern.

The euro zone is about 60% the size of the US economy, but it relies on Germany’s €1.6 trillion bond market as a safe haven – a fraction of the $23 trillion US government bond market.

In the case of a volatility shock, “you can very easily end up in a situation where some markets really dry up,” Krizan said. “For us, it is one of the biggest risks for the euro area.”

For example, the Netherlands, like Germany, has a top, triple A rating. But like other smaller eurozone markets, it does not offer futures, a key hedging instrument, and so far this year the premium it pays over German debt has doubled to about 30 basis points.

Smaller states pay a premium compared to larger peers

Efforts by debt servicers are welcomed by European primary traders, whose numbers have declined in recent years due to shrinking profit margins and tighter regulation.

Two officials at primary retail banks said meeting quota obligations under current conditions would force them to take on greater risk.

“If (issuers) want market making in the private sector, it has to be profitable, or why would anyone do it? And it can’t be if interest rates are moving around 10-15 basis points a day,” one said of moves by a scale rarely seen in these markets in recent years.

($1 = 0.9970 euros)

Reporting by Yoruk Bahceli and Dhara Ranasinghe; additional reporting by Belen Carreno in MADRID, Lefteris Papadimas in ATHENS and Padraic Halpin in DUBLIN; editing by Tomasz Janowski

Our standards: Thomson Reuters Trust Principles.

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