Every so often when I am shopping for individual bonds, I notice something unusual that is worth sharing. Last week, when attempting to add to my position in Barrick Gold’s 2042 maturing notes, I experienced something that makes me wish the world of fixed income would share the fully automated nature of the equity markets.
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At 10:19:24 AM Eastern time on Monday, April 29, 2013, I placed an order to purchase 10 bonds ($10,000 face value) of Barrick Gold’s 2042 maturing notes, CUSIP 067901AH1, at a price of 96.979. The offer price at the exact moment I entered the order was 96.979. In other words, I was not trying to get filled between the bid and ask prices. Instead, I was quite happy with a fill at the then-current offer. There were 100 bonds being offered at 96.979 with a minimum purchase requirement of two bonds.
Barrick Gold’s 2042 maturing notes track the price of the November 15, 2042 maturing 2.75% coupon Treasury bond, CUSIP 912810QY7. This means that during the course of the day, the offer price of the Barrick notes will generally move in accordance with the price movements of that Treasury bond. It is not uncommon for corporate bonds to track the price movements of a corresponding Treasury on an intraday basis.
Concerning the Barrick Gold 2042 notes, lately, the dealers seem like they can’t make up their minds about what the spread to Treasuries should be. This results in random notable intraday adjustments to the price. For example, I have recently seen intraday price jumps of as high as 1% without any comparable movement in the corresponding Treasury. But once the random price adjustment is made, the notes return to tracking the November 15, 2042 maturing Treasury.
In the twenty minutes immediately following my order entry, the long bond in the Treasury market barely budged, staying within one-half of one basis point the entire time. Within a minute of my order being entered, the offer price on the Barrick Gold notes actually decreased ever so slightly. A few minutes later, the offer price increased slightly, settling at 96.99 where it remained for several minutes. After seven minutes, I called the bond desk of the broker with whom I entered the order to find out why the order had not filled. The representative informed me that I should be due a fill, and that I should give the dealer a few more minutes because the offer was not on auto-execute.
After sitting open for twenty minutes, however, my order was automatically cancelled by my broker. I tried to get filled again, this time through another broker, and at a price of 97.011 (it would cost me an extra $3.20, which wasn’t a deal breaker to me). My other broker was eventually able to get me filled at 97.011, although I was told the order was routed to a different dealer than the original one with whom the first order was not filled (the one who was still represented as the best offer at the time).
Why didn’t my order get filled when it appeared I was due a fill? When I called the original broker back after the order was verified as cancelled, I spoke to a different representative who told me I was actually not due a fill because the offer price had moved higher than my limit price. This was true despite the fact that it took a few minutes before the offer price moved higher than my limit price. Nevertheless, that is the standard excuse given when an order is not filled in the bond market. Sometimes it is a valid excuse, and other times it is not. In this case, it does not pass the smell test.
First, why a dealer thinks it is a good idea to tie a long-term corporate bond to a Treasury bond and not have the offers set to auto-execute is beyond me. That seems like something that would be done when it is your hope not to have to fill many, if any, orders. I cannot say for sure whether incompetence, a desire to fill very few or no orders, or some other reason was at play regarding the Barrick Gold notes. But I do know that in the world of stocks, when entering your limit order at the offer price, if the offer stays the same or declines over the coming minutes, and the amount you want to purchase is less than that being offered, you would absolutely get a fill. In the world of bonds, as my example demonstrates, that is not necessarily the case.
Furthermore, any argument that the order was stale (also often used as an excuse for a cancelled order) can be dismissed based on the fact that I was watching the notes track, quite closely, the corresponding Treasury bond, and because of the fact that no intraday price adjustment was made during the time my order was open. Sometimes, early in the morning, there will be offers left over from the previous day that a dealer will not fill because they are “stale.” I have had a few orders to purchase bonds cancelled because of such “stale” offers. But I have also had some orders cancelled in the middle of the day, when the price of the bond was moving throughout the day, with the excuse given that the offer was “stale.” My take on “stale” offers is that if a dealer is too lazy to remove the order from its system, especially in the middle of the day, it should, under some type of code of ethics, be required to fill any order that hits those “stale” bids or offers.
Moreover, I wondered whether the particular dealer offering 100 Barrick Gold notes at 96.979 was holding my order, waiting to see which way the market moved, before filling it. If the market moved against me, the order would not be filled. If the market moved in the dealer’s favor, the order would be filled at the less favorable price for me. When I made the original phone call to my first broker, inquiring why the order was taking so long to fill, I asked the representative whether it was possible the dealer was holding my order to see which way the market moved. She was reluctant to answer my question, so I asked it again. I finally got her to say that she’s seen it happen before, but that she thought I would get filled on my order.
Over the years, I have had plenty of corporate bond orders held for many minutes in an open status only to have the orders eventually cancelled after the market moved against me. This would occur despite the market holding steady at my price or even moving slightly in my favor during the first several minutes after the order was placed. It has happened on so many occasions, across so many different securities, that it seems like too many coincidences to be a coincidence. My hunch is that there is widespread activity concerning order execution that, while perhaps legally acceptable, would not be looked upon by many investors as ethical behavior.
If the bond market as a whole operated in the fully automated fashion that equities operate, many of the issues I have come across over the years when trying to get an order filled would likely not occur. Another example of bond market shenanigans that I experienced last year concerned a broker-dealer of mine, which claims not to mark up bonds, simultaneously doing a dealer-to-dealer swap at a lower price than that at which I was filled, filling my order at the higher price (a markup), and then also adding a commission onto the trade. An investor who doesn’t check time and sales on an order would never realize that a broker-dealer received a better price, marked up the bond, and charged a commission to boot.
Until such time as centralized exchanges replace the over-the-counter nature of the bond market, investors should be aware that they are attempting to purchase and sell within an opaque system in which things happen that many would consider questionable, if not downright unethical. Despite this, it does not stop me from purchasing individual bonds. For me, the benefits of purchasing individual bonds outweigh the frustrations of dealing with various bond market shenanigans. But I still think it is important to be aware of the various issues you might encounter when purchasing bonds. At the very least, knowing the challenges you may have to deal with can help you determine whether participating in the individual bond market is right for you.
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