Reforms won’t solve bond allocation frustrations

Author: Danielle Myles | Published: 26 Nov 2014
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Buyside frustrations with European corporate bond allocations are simply a feature of the excessive demand in a maturing market. It means regulators’ suggestions to create a fairer and more structured process are misguided and will achieve little.

Low interest rates and record issuance levels have lured a wave of investors to the corporate bond market in the post-crisis years. Demand is outstripping supply many times over, with up to 10 times as many orders received pre-crisis.

It’s prompted some investors – particularly new ones accustomed to prescribed syndication processes in other asset classes – to query the extent issuers or underwriters are controlling and owning order books.

The division of authority changes depending on the size and experience of the issuer. But issuers are adamant that even in today’s hypercompetitive market, they have the ultimate say on who buys their bonds.

"We are pretty clear that we own [the order book], but we choose to delegate the allocations to the banks," said Gary Admans, manager of BP debt capital markets, speaking at the International Capital Markets Association’s (ICMA) Primary Market Forum this month. "We don’t have any specific input, but we do have general guidelines that all our banks know how we expect the book to be allocated."


  • High investor demand for European corporate bonds has created frustration among some buyside participants over allocation processes;
  • But it’s temporary and a natural problem in an unbalanced market. It will only be resolved when it returns to more sustainable levels;
  • Newer investors in particular, who are used to more structured processes in other capital markets, are querying the extent that issuers or underwriters control the sales decisions;
  • UK and EU regulators’ suggestions on how to address the issue through pro-rata, public, auctioned, fully automated or first-come-first-serve allocations are misguided and are not expected to work.

Fellow speaker Michael Gower, head of treasury at Rabobank, has even heavier input into syndications.

"We have always been very diligent to go line-by-line through every single allocation and approve it," he said. "We expect banks to help distribute and underwrite. But they cannot maintain the relationship we have with investors without our input."

Panellist Ketish Pothalingam, senior vice-president and portfolio manager at Pimco, agreed that bonds and order books belong to the borrower/issuer. But he does value the fact that banks, and as an investor the relationship with banks, are regulated.

European and UK authorities are looking to increase regulatory oversight of allocations. But their suggestions have received a lukewarm response by the buyside community, as well as issuers and banks.

Mifid and FEMR misguided solutions

Given they are responsible for obtaining the best allocations, it’s natural for investors – both new and experienced – to scrutinise how bonds are sold, particularly in an unbalanced market. And for some to be unhappy once in a while.

But ICMA panellists agreed this shouldn’t be attributed to the process.

Accomodating buyside concerns, authorities are nevertheless looking at ways to change the process.

The UK’s Fair and Effective Market Review consultation, launched last month, asks whether auctions or otherwise public syndication processes would improve the situation and mitigate investor disappointment.

The European Securities and Markets Authority’s (Esma) May consultation on the Markets in Financial Instruments Directive (Mifid) II considered allocation issues in the context of conflicts of interest.

Other solutions proposed by these two papers, or other initiatives over the years, include allocations based on pro-rata, fully automated processes, or first-come-first-serve. But a range of market participants agrees that these aren’t feasible.

"We’ve suggested regulators might require banks to have an allocation policy – which they do anyway – rather than mandating prescriptive allocation rules. As they would risk getting it wrong," said ICMA senior director Ruari Ewing.

Mandated allocation processes overlook the fact that underwriters receive guidance from issuers on their order preferences.

"We expect banks to have good sophisticated polices in place and an understanding – from the issuer’s perspective – of what the hierarchy is," said Ewing. "But beyond that, it is art not a science"

In addition, investors value the human contact with the syndication desks, and appreciate verbal confirmations. It adds weight to arguments that the best approach is to ensure all, particularly newer, investors understand the process by which allocations are made, so that no one feels unfairly treated.

"We expect banks to have good sophisticated polices in place…but beyond that, it is art not a science "

Any investor frustrations are a temporary feature of a maturing market experiencing high demand. It suggests that regulation isn’t the solution, and that participants must simply persevere with best practice. "I think the big answer will come when the market shifts and demand moderates to the (more sustainable) pre-crisis relative levels," said Ewing.

Even without further allocation regulations, the growing scrutiny on bank conduct means they are paying strict attention to syndication processes – both as issuers and underwriters.

"There are a number of questions around the way allocations are done and executed," said Gower. "So we must be very, very sure as an issuer that our behaviour is appropriate, and that we are comfortable with the allocation process."

See also

Is FICC based on pragmatism or politics?

Isda rejects Mifid II liquidity

LMA syndicated loan conference highlights