The fixed-income market is notoriously known for its less liquid nature relative to equities. However, exchange traded funds have boosted the perceived liquidity of the bond space.
“The growth of the fixed income ETF market has helped to create a new, incremental source of liquidity for investors, above and beyond that which can be accessed directly in the OTC bond market,” according to a recent BlackRock iShares research note. “The ETF effectively provides an additional trading venue—the exchange—where fixed income risk can be transferred among investors. This additional layer of exchange liquidity increases the total amount of liquidity available to fixed income investors.”
BlackRock points out that over the past five years, growing interested in fixed-income assets have helped corporate bond ETFs experience a surge in growth, which has outpaced the growth of primary corporate debt market.
Specifically, from the end of 2007 through the end of 2013, the corporate debt market expanded 81% to $4.7 trillion from $2.6 trillion, while assets in investment- and speculative-grade corporate bond ETFs jumped 25-fold to $100.4 billion from $3.9 billion. The sudden interest in corporate bond ETFs was also accompanied by a 10-fold jump in exchange trading volume over the same period as more investors turned to ETFs.
Consequently, BlackRock contends that the amount of liquidity available through ETFs as a percentage of corporate bond market has steadily increased.
Some market observers, though, have warned that the increased reliance on ETFs could cause more people to come up against liquidity issues once a major sell-off occurs as ETFs try to redeem shares in an illiquid primary market.
“Is there a story to bond ETFs contributing to the problem? No,” Mark Wiedman, head of BlackRock’s iShares ETF unit, told Bloomberg. “They are contributing to the solution, I think we can say that with 100 percent confidence.”