Next, the SEC turned its attention to corporate bond trading—a market much less liquid and transparent than the stock market. With many trades conducted over-the-counter, it was difficult for investors to see the best prices and to see what prices other investors had been paying for identical or similar bonds. In 1998, the SEC began to instruct the National Association of Securities Dealers to set up TRACE, a system through which corporate bond trades would be reported in real time. (Here's some history on the process.) Again, bond dealers were less than thrilled. But since TRACE went into action, costs for investors have come down. A paperthat studied trading before and after TRACE found "a reduction of approximately 50 percent in trade execution costs for bonds eligible for TRACE transaction reporting." And the market grew. The TRACE fact book (see Pages 27 and 28) shows the volume and value of bonds traded on the system have increased substantially.
Now the same dynamic is playing out with derivatives. Under the current system—as was the case with stocks and corporate bonds—the large investment banks serve as market makers and keep pricing information close to the vest. They extract fat spreads for doing customers the service of introducing buyers to sellers. But in a range of markets—stocks, antiques, baseball tickets—it has become clear that electronic selling platforms in which buyers and sellers can meet on their own terms are more efficient. That would probably be the case with derivatives as well.
Trading is always a zero-sum game. And in this arena, a gain for customers would be a loss to the Wall Street intermediaries. JPMorgan Chase CEO Jamie Dimon acknowledged as much when he told analysts that if derivatives trading went through clearinghouses it could cost his bank from "$700 million to a couple billion dollars."
Rather than let buyers and sellers meet in exchanges, rather than let investors be able to see the full array of trading in real time, the Wall Street firms effectively want things to work the way they did in the last century, when you had to pick up a phone and call somebody to get a price and execute a trade. The opposition to moving derivative trades to a clearinghouse isn't about protecting customers. It's about protecting the entrenched positions and profits of large banks.
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