Friday February 13, 07:25 PM
As bond supply looms, firms eye primary dealership
By Kristina Cooke
NEW YORK, Feb 13 (Reuters) - The prospect of money to be made trading U.S. debt directly with the Federal Reserve is making 'primary dealer' status appealing to a broader range of institutions.
The number of primary dealers shrank to a record low of 16 this week as Merrill Lynch (NYSE: MER - news) became the latest in a number of prestigious firms whose primary dealer status fell victim to the financial crisis.
The record low number of dealers has raised some fears about whether there will be enough demand for the estimated $2 trillion of debt the Treasury will need to sell to fund its economic rescue packages.
But the looming avalanche of supply, coupled with a smaller and thus less-forbiddingly competitive field, may make primary dealing look like a good deal for a wider ranger of firms.
Primary (PYC.V - news) dealers are banks and securities brokerages that trade in U.S. government securities with the Federal Reserve System. Dealers must qualify in terms of reputation, capacity, and adequacy of staff and facilities.
Futures and options broker MF Global Ltd and Japan's Nomura Holdings (N33.SI - news) have applied to the New York Federal Reserve to become primary dealers, respective company spokesmen said this week. Canada's RBC Capital Markets and mid-sized U.S. investment bank Jefferies are also reportedly interested in becoming primary dealers.
Nomura withdrew its primary dealership, which obligates it to bid at Treasury auctions, in November 2007, saying it was focusing on its 'core operations' in the United States. Earlier that year, another dealer, CIBC World Markets, also withdrew.
'When Nomura dropped out in 2007 there were fewer opportunities to make money in being a primary dealer,' said Ted Ake, head of bond trading with Mizuho Securities, a primary dealer in New York.
'Now you have not only arbitrage opportunities, but opportunities in market-making, and there is more volatility in Treasury issuance.'
An example of the increased volatility is the growing gap between high and low yields at Treasury auctions. At Thursday's record $14 billion sale of new 30-year bonds, the spread between high and low yields submitted was 24 basis points, compared with a spread of 15 basis points at a $13 billion 30-year auction a year earlier.
At the height of the debt boom in the late 1980s, the number of primary dealers peaked at 46. In 1999, there were 30. The crowded field made it difficult to make much of a profit, economists say.
Another benefit to being a primary dealer in the current environment could be some of the various Fed facilities available to customers only via a primary dealer.
'There seems to be a focus on government guaranteed products at the moment,' said Tom di Galoma, head of government bonds at Jefferies in New York.
'Any time you get access to the Fed window for financing purposes it has to be a very good thing. It seems to be that every firm worries about funding itself, and making that financing available is crucial to anybody's business model in this environment.'
There are likely a wide range of institutions that may be interested in becoming primary dealers, including other foreign banks, hedge funds and medium-sized firms, said Stephen Stanley, chief economist at RBS Greenwich Capital, a primary dealer.
'I don't think there is any question that the Treasury would say 'the more the better,' even if the ones being added aren't among the top tier,' he said. 'Every different name brings with it a new investor base and broadens the government's sponsorship pool.'
The last time more than one firm was named a primary dealer at once was in 1988, when three firms were added to the list.
That said, Scott Pardee, a professor of monetary economics at Middlebury College and a former New York Fed official, cautions that primary dealers have to have a developed investor base and be big enough players not to be pushed around by other dealers on large transactions.
Merrill Lynch Government Securities was dropped from the Fed's list of primary dealers this week as a result of its parent's acquisition by Bank of America (NYSE: IKJ - news) . Lehman Brothers (NYSE: LEH - news) , Bear Stearns (NYSE: BSC - news) and Countrywide Financial Corp were all deleted last year.
(Reporting by Kristina Cooke, additional reporting by Richard Leong; Editing by Dan Grebler) Keywords: USA FED/PRIMARYDEALERS
|
Send Article by Email
Send Article by IM
Blog This with Y! 360
Printable View
