LDN - Business

Fund industry defends bond ETFs to U.S. regulators

[April 10, 2018] By Trevor Hunnicutt

(Reuters) - A fund industry trade group representative on Monday disputed the idea that bond exchange-traded funds (ETFs) might fail to hold up under stress, telling U.S. securities regulators he knows of no convincing evidence to suggest such funds' liquidity is a problem.

The remarks by Investment Company Institute Chief Economist Sean Collins come as some top investors question the resiliency of debt funds, which are often cheap to trade but hold corporate bonds that are difficult to buy and sell, even in normal markets.

Allianz SE chief economic adviser Mohamed El-Erian, for instance, had told an ETF industry conference in January that some of the funds inadvertently over-promise liquidity - the ability to buy or sell without a significant impact on price - to investors who may not have that experience when market sentiment deteriorates. (Pacific Investment Management Co, an Allianz subsidiary, manages bond ETFs.)

Debate on whether such a "liquidity mismatch" exists, while not new, has drawn the attention of the U.S. Securities and Exchange Commission (SEC) and an advisory committee to the agency, known as the Fixed Income Market Structure Advisory Committee, which convened a panel of traders and investors to discuss the topic.

The working group advising the SEC on bond ETFs is chaired by an employee of BlackRock Inc, the world's largest manager of such funds.

ETFs hold stocks, bonds and other assets. Only large institutions can redeem them directly with issuers. Other investors trade them on exchanges.

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Because much of the trading activity involves shares of the funds, rather than individual bonds, ETF issuers from BlackRock to State Street Corp have said they offer investors a new way to transact, improving liquidity.

More than $1 billion changes hands daily on exchanges using the largest "junk" bond ETF, BlackRock's $15 billion iShares iBoxx $ High Yield Corporate Bond ETF.

"ETFs are adding to price discovery," said Collins, noting that ETFs can meet the redemption orders they do get without raising cash, simply by handing over bonds held by the fund.

"Investors should understand they own a share of an asset that might be very liquid or it might be less liquid," said Matt Berger, global head of fixed income and commodities at Jane Street Group LLC, a high-frequency trader and major ETF market maker.

"Investors should just understand what they're buying."

Earlier, the committee also recommended that the SEC mandate an experiment to study whether the more timely inclusion of some large corporate bond trades to the public data feed would lead to increased liquidity and make it easier to get such trades done.

The one-year pilot program would increase the threshold on the sizes of both investment-grade and high-yield corporate bond trades that must be disseminated to the public within 48 hours of a trade occurring. This would give market makers a better view into what is trading in the market and the risk they are taking on, potentially enabling them to provide more liquidity.

(Reporting by Trevor Hunnicutt; Additional reporting by John McCrank; Editing by Nick Zieminski)

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