Acclaimed author Bob Veres examines Northern Capital's approach to fixed income investing. Mr. Veres is an award winning editor and publisher of the Inside Information interactive guide to trends and innovations in the investment advisor profession.
The article has been reprinted with permission from Inside Information.
Regulators in the U.S. and Europe have established new rules outlining comprehensive best execution standards across asset classes. Fixed income execution analysis tools are becoming an increasingly valuable resource for buy-side participants. Although U.S. broker-dealers are not obligated to disclose markups to institutional investors, they are permitted to provide this information on a voluntary basis. Markup disclosures and prevailing market pricing information support advisors' efforts with their best execution evaluation and can contribute to the disclosing firm's culture of transparency and objectivity.
Bonds selling at a premium are generally more defensive in nature and should decline less in price than a similar bond selling at a discount. Benefits include lower price sensitivity (duration) than similar discount bonds, high coupon cash flow, and the opportunity to reinvest these larger cash flows at higher rates should prevailing interest rates start to increase. Risks include, but are not limited to, changes in interest rates, liquidity, credit quality, volatility, and duration.
ETF investors have an expectation of instant liquidity, similar to company stocks on an exchange. The problem, however, is that the underlying securities in the ETF have no such liquidity. Like stocks, ETFs trade throughout the day. Extremes in price fluctuation have been seen during market anomalies, such as the so‐called Flash Crash. While significant deviations in value are relatively infrequent, they are not unheard of. In a retail‐dominated sector, finding willing buyers in a 'fire sale' is more difficult when institutions aren't a significant player. It may become a situation where liquidity is only present when you don't need it, but disappears when you need it the most.
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