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February 20, 2007
Treasuries Lose `Masters of Universe' as Volatility Dwindles
2007-02-19 18:14 (New York)
By Elizabeth Stanton
Feb. 20 (Bloomberg) -- The market that once told every
other market what to do, also known as U.S. government
securities, is so dull these days that the world's biggest banks
are losing interest and bowing out.
``Low volatility makes it very hard to generate any
income,'' said E. Craig Coats, who was co-head of fixed-income
at Salomon Brothers in the 1980s, when it was the world's
biggest bond trader.
That's why the firms that underwrite U.S. government debt
may fall to the fewest in 36 years as profits from trading
Treasuries decline along with price swings in the bonds. ``You
have to generate your income by doing massive amounts of
volume,'' said Coats, who was among the elite at Salomon, a firm
whose influence was caricatured in Tom Wolfe's ``Bonfire of the
CIBC World Markets Corp. gave up its so-called primary
dealer franchise this month, reducing the number of firms that
can buy and sell government securities directly with the Federal
Reserve Bank of New York to 21. There haven't been fewer since
1971. The group is down from a high of 46 in 1988.
The average daily change in yields on Treasuries has fallen
to 2.5 basis points this year, from 4.9 basis points in 2001,
and is the lowest since Merrill Lynch & Co. began compiling data
a decade ago. A typical 10-year note trade provides about $1 in
revenue for every $40 it produced in the mid-1980s, said the
head trader at a primary dealer who asked not to be identified
because his firm doesn't disclose details of trading.
Merrill Lynch's MOVE Index, which measures expectations for
Treasury market volatility, fell on Feb. 5 to the lowest since
the firm began tracking the data in 1988. The index, based on
prices of over-the-counter options on notes and bonds, closed at
54.9 that day and finished last week at 60.7.
Decline in Revenue
Opportunities to profit from trading the $4.35 trillion of
outstanding U.S. government debt are disappearing. Revenue from
10-year notes has dwindled to about $30 per $1 million trade
before processing and hedging fees, which average $10 to $15,
said the head trader at the primary dealer. The same trade
earned about $150 in 1999 and $1,200 in the mid-1980s.
The benchmark 10-year note's yield hasn't moved more than
20 basis points in a week since April 2005. The yield on the 4
5/8 percent Treasury note due in February 2017, last week
declined 9 basis points, or 0.09 percentage point, to 4.69
percent. From 2001 to 2006, weekly moves of at least 20 basis
points occurred 31 times.
The number of primary dealers probably will fall in the
next two years, said Jason Evans, head of U.S. government bond
trading in New York at primary dealer Deutsche Bank AG. The
decline won't reduce the ability of investors to buy and sell
large amounts of securities, he said.
``The changing economics of the business is putting a lot
of pressure, especially on the smaller or lower-tier players, to
really question what is the value proposition of maintaining a
dealership,'' said Evans, who previously headed Treasury debt
trading at primary dealer Goldman Sachs Group Inc.
Representatives at Bear Stearns Cos., BNP Paribas, Cantor
Fitzgerald LP, Credit Suisse, Daiwa Securities Group Inc.,
Deutsche Bank, Goldman and JPMorgan Chase & Co. said they were
committed to their primary dealer business. The rest either
declined to comment or didn't respond to calls.
Many firms use their primary dealership to gain more
lucrative business trading and selling credit derivatives or
other types of fixed income, Evans said.
U.S. government debt trading by primary dealers fell last
year for the first time since at least 2001, according to data
compiled by the New York Fed. Transactions averaged $525.2
billion a day, down 5 percent from a record set in 2005. The
daily average rose at least 11 percent a year from 2000 through
``The primary dealer community will continue to shrink
based on opportunities for profit in the marketplace,'' said
Patrick Haskell, former head of interest-rate sales and trading
at primary dealer HSBC Bank USA. Haskell quit in December when
the firm cut about 20 jobs from the group.
Twelve of 30 firms in the Bond Market Association's 2000
directory of primary dealers have dropped out. They include ABN
Amro Holding NV, which withdrew in September, and Donaldson,
Lufkin & Jenrette Securities Corp., acquired by Credit Suisse
Group in 2000.
The New York Fed declined to comment, spokeswoman Linda
Ricci said. The market ``is deep and liquid,'' said Jennifer
Zuccarelli, a Treasury Department spokeswoman.
Price volatility has fallen as global economic growth
became more stable and the Fed and other central banks made
monetary policy more predictable, said Marie Schofield, a senior
portfolio strategist at Columbia Management in Boston. The
investment-management arm of Bank of America Corp. oversees $87
billion of bonds.
The Fed now publishes minutes of policy makers' meetings
three weeks after they occur, compared with six weeks before
``We're seeing lower volatility in terms of economic cycles
and lower volatility in terms of market cycles,'' Schofield
said. ``Things that caused volatility in the past were
Inflation has slowed, leading investors to accept lower and
more stable yields than previously. The annual inflation rate
has averaged 2.8 percent since the start of 2000, down from 3
percent in the 1990s and 5.6 percent in the 1980s. Lower
inflation has enabled the Fed to keep its benchmark overnight
rate lower. It has averaged 3.24 percent this decade, compared
with 5.12 percent in the 1990s and 9.86 percent in the 1980s.
The economy has also benefited from increased flexibility
in the labor market as companies use temporary workers and
overtime to meet production deadlines, according to a New York
Fed staff report published in April 2006.
A January research report by Credit Suisse said the
``persistent trade imbalances with countries that recycle a
substantial portion of their surplus dollars'' back into the
U.S. without hedging against volatility also has contributed to
lower price swings.
John Roberts, a managing director in New York at primary
dealer Barclays Capital Inc. and head of the government
securities division of the Securities Industry and Financial
Markets Association, said the number of primary dealers is
``stable to growing'' in part because the business is key to
winning business from central banks.
For example, Countrywide Financial Corp. became a primary
dealer in 2004 and Cantor Fitzgerald joined the ranks in 2006.
Almost all of the 17 firms that were primary dealers when
the Fed formalized rules in 1960 have changed their names, been
acquired by other securities companies or gone out of business.
For example, First Boston is now part of Zurich-based Credit
Suisse Group; Salomon Brothers is now owned by Citigroup Inc. in
New York; and PaineWebber Inc. is owned by UBS AG, also in
In the 1980s, as Japan increased purchases of U.S. debt,
six Japanese securities firms became primary dealers: Fuji
Securities Inc., Sanwa Securities Co., Daiwa, Nomura Securities
International Inc., Nikko Securities Co. and Yamaichi
International Inc. Only Nomura and Daiwa remain. Fuji is now
part of Mizuho Financial Group Inc.
CIBC cut the jobs of all nine people involved in trading
Treasuries and other securities based on U.S. interest-rates
when it withdrew this month.
Chris Anderson, a spokesman for CIBC, and Patrick Phalon, a
spokesman for ABN Amro, declined to comment.
``The value of being a primary dealer has fallen over
time,'' said Brad Hintz, a securities industry analyst at
Sanford C. Bernstein & Co. in New York and the former treasurer
of Morgan Stanley and chief financial officer of Lehman Brothers
Holdings Inc., both primary dealers.
``I'm glad I was in the business when I was,'' said Coats,
who runs the bond division at New York-based KBW Inc., a firm
that isn't a primary dealer.
Following is a table of current primary dealers and their
BNP Paribas Paris
Bank of America Charlotte, North Carolina
Barclays Capital London
Bear Stearns New York
Cantor Fitzgerald New York
Citigroup New York
Countrywide Calabasas, California
Credit Suisse Zurich
Daiwa Securities Tokyo
Deutsche Bank Frankfurt
Dresdner Kleinwort Frankfurt
Goldman Sachs New York
Greenwich Capital Greenwich, Connecticut
HSBC Securities London
JPMorgan Chase New York
Lehman Brothers New York
Merrill Lynch New York
Morgan Stanley New York
Nomura Securities Tokyo
Following is a table of the original primary dealers in 1960:
J. G. White & Co.
Bartow Leeds & Co.
Briggs, Schaedle & Co.
C.F. Childs & Co.
Merrill Lynch, Pierce, Fenner & Smith Inc.
Discount Corp. of New York
First Boston Corp.
N.Y. Hanseatic Corp.
Aubrey G. Lanston & Co.
Wm. E. Pollock Government Securities Inc.
Chas E. Quincy & Co.
D.W. Rich & Co.
Salomon Brothers & Hutzler
Bankers Trust Co.
Chemical Bank & Trust Co.
Continental Illinois National Bank & Trust Co.
Guaranty Trust Co.