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Goldman Sachs comes late to the game

The Financial Times ran a story Monday about Goldman Sachs becoming the first big dealer to orient its business around electronic fixed-income trading and away from “hands-on” order processing in light of new regulations coming from Dodd-Frank. The story claimed that Goldman was a pioneer in this approach:

Now Goldman could be one of the first banks to fully introduce electronic trading for its FICC business, marking an important departure for the unit, which has traditionally prided itself on “high touch,” or traditional trading, undertaken by desk-based brokers on behalf of the bank’s clients.

This is laughably inaccurate. Electronic trading in fixed income is ubiquitous and likely will rival the penetration of electronic trading for equities within several years. I’ve personally worked on issue of electronic trading for fixed income since 2001. My work was done in conjunction with an industry standards group, FIX Protocol, which is a trading protocol most well-known for its use in high frequency equity trading.

In December 1999 Putnam Investments teamed with Merrill Lynch to develop a “proof-of-concept” to migrate the FIX language from electronic equity trading to electronic fixed-income trading. The experiment was successful and led to the development of a working group for FIX which had the support of the Bond Market Association, the precursor to SIFMA. The group was formally organized in 2000 as the Fixed Income Working Group (FIWG) and is now known the Global Fixed Income Committee.

The work of the FIWG was originally driven by several dealers (although not Goldman Sachs) and the staff of Tradeweb and MarketAxess, the two dominant institutional fixed-income trading platforms. These two platforms are configured for dealers to compete for customer orders from the institutional buy-side — think mutual funds, non-dealer banks, pension funds and others. You can think of these alternative trading systems (ATS) as similar to exchanges where dealers have the inside edge on technology and access to order flow. But they are not regulated as exchanges by the SEC and do not enforce rules on their participants. They are essentially dark pools since they are not required to display or report prices for executed trades for many bond classes (trades in corporate bonds, mortgage-backed securities and agency bonds are reported to FINRA’s TRACE, which publishes an unattributed aggregate trade tape for corporate bonds only).

In 2001 FIX Protocol signed a statement of understanding (page 21) with the Bond Market Association making FIX the standard for electronic trading of fixed income and things took off from there. There were an increasing number of sell-side and buy-side fixed-income market participants who became involved in developing and adopting the FIX standard for bond trading. Curiously, Goldman Sachs was rarely, if ever, involved with these meetings. In 2006, I published the FIX Kit, a short guide for firms to understand the basics of using FIX to trade fixed income and connect to their counterparties. On page 15 you can see the dealers who had FIX connections available in 2006 for their customers. The list includes Credit Suisse, Barclays, Deutsche Bank, JP Morgan, UBS and the late Lehman Brothers. Notice the conspicuous absence of Goldman Sachs.

The FT article says that Goldman is specifically looking at the rates and currencies markets to go electronic. But these two markets conduct almost all trades electronically already. Rates trading is done through Tradeweb with over a million price updates a day for users. Electronic trading for currencies is already heavily electronic and was migrating towards algorithmic trading in 2008. Foreign-exchange trading is one of the easiest to automate because there are limited currency pairs to trade. The first platform for electronic currency trading, Matchbook FX, was established in 1999 by a former Goldman Sachs foreign-exchange trader, Josh Levy.

I have the impression that Goldman Sachs often lurks around waiting for technologies to develop and stays out of the game until its ripe. This is wholly different than being a “pioneer’ as the FT article claimed. I think one takeaway from this episode is that financial media needs to do a little better job of searching out the core truths of a story. This is not an issue that afflicts only the Financial Times — I see journalists from every media outlet easily spun by dealers on complex issues, especially those that relate to technology and regulation issues. It’s a substantial problem because the majority of financial market activity happens away from regulated exchanges in the vast, dark “over-the-counter” markets.

My advice to financial journalists is question  everything and if information comes willingly from a dealer assume they are spinning you.

I’ve been over at MuniLand


This blog has been neglected for quite some time as I’ve been blogging about the municipal bond market at my MuniLand blog at Reuters. I post twice a day there with a morning round-up of links from the web and interesting bits from Twitter. The morning post is called “MuniLand Snaps”. In the afternoon I write a post about a specific topic that can be about market structure, regulatory issues or public policy. I appreciate Reuters giving me the opportunity to write about these issues.

I thought that I might resurrect this blog to post things that are too big for Twitter and too small for MuniLand.

We’ll see how it goes. Please leave any suggestions in the comment section.

Open source time….

Well… I’ve been over at Riski all the time… and on Twitter too…

Visit over there… and I’ll have a new project coming soon…

Mad meat… how securitized lending collapsed the financial system

Capitalism’s scalptakers

I got a call yesterday from the communications director of the SEC’s Enforcement Division. He asked if I would publicize several high level job openings. Here are the positions:

I’m very happy to do this for several reasons:

  • The SEC sets and enforces the standards for transparency and fair dealing.
  • Tough enforcement of securities laws restrains predation on weaker parties in financial markets.
  • Market participants will reduce excessive risk-taking if they know they are faced with civil sanctions (and possible referral for criminal prosecutions).
  • Well regulated financial markets are stable markets.

The heart of capitalism is well functioning markets.

Fair functioning markets efficiently move resources from savers to makers. This transformation creates the basis of wealth and growth for the nation.

Our nation is emerging from a period of under-regulated markets.

We lived with the belief that markets were efficient and the deeply mistaken understanding of Alan Greenspan that regulation was unnecessary because market participants were always assessing the creditworthiness of their counterparties. This is a direct manifestation of “self-regulating” markets.

Self-regulating and efficient markets are more likely to happen when they are transparent.

Transparent markets can be less profitable markets. Profits are often highest in opaque and fraudulent markets.

Transparency levels the playing field, increases competition, exposes fraud, reduces margins and increases the supply of goods and services.

Wrongdoing occurs in firms of all sizes.

Small time lawbreakers are generally caught with ease over time… their tricks are not novel or obscure…

It’s the largest firms, with the most resources, who egregiously create complexity in their accounting and disclosure that pose the greatest threat to capitalism.  The concentration of resources and obscurity of business practices make these the most difficult firms to regulate.

The financial crisis has highlighted that our largest firms were poorly run and engaged in activities that reduced transparency… think Lehman repo 105, Goldman Sachs Abacus CDO deals and Merrill Lynch’s lack of disclosure pre-merger with Bank of America … all massive, highly engineered attempts to circumvent the laws…

Regulating the transparency of these firms will require sophisticated knowledge of market practices, accounting rules and the law.

The positions that the SEC is seeking to fill are the “scalptakers of capitalism”… the men and women who fill these roles will be the enforcers of the fundamental tenants of free functioning markets.

One used to often hear how the United States had the most transparent and trusted markets in the world.

I’ve not heard that phrase used since the crisis began in 2007.  Let these scalptakers restore this homage to our nation… this free and open nation…

This is real leadership – Liz Warren for consumer financial protection head

The primary lubricant of the financial system is confidence…

Restoring American’s belief in the financial and banking system will require years.

Americans must believe that the credit, investing and savings products offered to them represent fair dealing.

Elizabeth Warren is the best person to lead the new consumer financial protection agency.

I hope that President Obama does the right thing and appoints her.

Watch the full episode. See more Need To Know.

Dodd-Frank Wall Street Reform and Consumer Protection Act

* * * A ten page summary of the Dodd-Frank Wall Street Reform and Consumer Protection Act

* * * The full text of the Dodd-Frank Wall Street Reform and Consumer Protection Act

* * * Davis Polk interprets the Volcker rule

Kudos to House Financial Services Committee Chairman Barney Frank on the level of transparency in the legislative process… good show…

The Wall Street Reform Bill: Conference Update

A summary of where we are in the legislative reform process of the financial system.

[BTW: follow me on Twitter  — cate_long — tweeting on the conference process)

From an email announcement from the House Financial Services Committee:

The Wall Street Reform Bill: Conference Update

Washington –Last week was a successful week for the House and Senate conferees for the bill to bring accountability to Wall Street.  The bill creates a new consumer financial protection watchdog, ends too big to fail bailouts, sets up an early warning system to predict and prevent the next crisis, and brings transparency and accountability to exotic instruments such as derivatives.

The following is a summary of the many provisions agreed to during the House-Senate conference last week.

A list of House and Senate offers and counter offers can be found by clicking here, but please note that there are still open items in each title, and nothing will be final until the conference report is signed by the conferees at the end of this week.

The House-Senate conference will continue its negotiations on the Wall Street Reform and Consumer Protection Act tomorrow at noon in room SD-106, Dirksen Senate Office Building.

Title III


· Preserves the Thrift Charter

· Abolishes the Office of Thrift Supervision

· Transfers the Authority of the OTS mainly to the OCC

· Establishes a Deputy Comptroller for Thrifts at the OCC

· Clarifies Branching Authority of thrifts that convert to banks

· House Employee Protections as provided for in the House passed bill.

AGREED TO – New Offices of Minority and Women

AGREED TO – Deposit Insurance Reforms: Permanent increase in deposit insurance for banks, thrifts and credit unions to $250,000, retroactive to January 1, 2008.


How to untangle the credit rating agency’s conflicts of interest

The House and Senate conferees worked hard to today to reconcile their versions of financial reform. Agreement was reached on private funds, insurance regulation and the merger of bank regulators.

A sticking point was on Subtitle C of Title IX which covers credit rating agencies.

I’d like to recommend to Chairman Barney Frank and others that they propose a slight modification to section 5 related to removing the exemption for credit raters from Regulation FD.

The current legislative language requires the SEC to write rules that would require issuers to share material non-public information with all investors and market participants in a similar manner to the equity markets.

I’d suggest a more tailored approach for the fixed income markets.

This would be the requirement that an issuer disclose material non-public information to all Nationally Recognized Statistical Rating Organizations [NRSRO] if they disclose information to any NRSRO.

This sharing of issuer material non-public information with all NRSROs is called “equivalent disclosure“.

This simple requirement would substantially reduce “ratings shopping” and empower all rating agencies to develop ratings on new issues. It would greatly negate the conflicts of interest that the issuer paid rating agency has by allowing other rating agencies equal access to information to develop an assessment of risk.

The SEC has already adopted this broadened disclosure requirement for structured finance products. The new disclosure regime went into effect on June 2.

We propose that the Congress adopt “equivalent disclosure” rules for all issuer communications with NRSROs.

Equivalent disclosure would require an issuer, or person acting on its behalf, to disclose material nonpublic information to all NRSROs if it discloses that information to one NRSRO. Equivalent disclosure would remove the issues associated with issuer selective disclosure primarily “rating shopping”.

The institution of equivalent disclosure would strengthen financial markets by ensuring that all NRSROs have adequate and equivalent information from issuers upon which to base their credit analysis.

Issuer disclosure would be required to all NRSROs that rate securities in the specific asset category (as outlined in the Credit Rating Agency Reform Act of 2006) for which the issuer has securities outstanding.

This broadened disclosure will increase the volume of information available to NRSROs and help unbind a market that has relied on the opinions of creditworthiness from a very small group of credit rating agencies.

This proposal does not alter the ability of NRSROs to have any form of business model that they choose. Issuers can continue to pay NRSROs to rate their securities. Issuers may likely continue this practice because of the bundle of services offered by the NRSROs to market participants.


Credit ratings agencies are more powerful than regulators – why not harness that?

Tomorrow the House and Senate conference committee is finalizing the language for credit rating agencies.

The push and shove is in full flight…

Senator Al Franken is promoting his amendment to establish a “ratings board” that will assign a specific rater (Nationally Recognized Statistical Rating Organizations [NRSRO]) to rate structured finance deals.

If adopted his amendment will have the effect of creating at least one independent rating for each structured finance deal. This would be very useful for less sophisticated institutional investors who don’t have in-house analytical staff. It would also be a useful check on the major raters.

The Minneapolis Star Tribune is reporting that House Chairman Barney Frank is proposing that the Franken proposal be studied and a report given to Congress on the implementation issues within a year. It sounds likely that a one year study will be written into the law. And the new board will come to life after a year.

Beyond the Franken amendment the House conference members issued some draft changes (page 11) today which incorporated specific language related to issuer disclosure to credit rating agencies. The language directs the SEC to rewrite the rules for issuer disclosure to raters under Regulation FD…  this may be equivalent disclosure… yes it may…

House draft language…


” Not later than 90 days after the date of enactment 25 of this subtitle, the Securities Exchange Commission shall revise Regulation FD (17 C.F.R. 243.100) to remove from such regulation the exemption for entities whose primary business is the issuance of credit ratings (17 C.F.R. 4 243.100(b)(2)(iii)).