JPMorgan Asks Who'll Provide Market Liquidity as Review End Near

  • Banks may have to hold far more capital for Treasuries, JGBs
  • Basel Committee intends to finalize rules by year-end

Bond market liquidity may shrink if rule changes as proposed requiring banks to hold more capital to offset losses in their trading books are implemented, according to JPMorgan Chase & Co.

Global regulators are finalizing tougher guidelines after the financial crisis revealed that buffers against trading losses were insufficient. The changes may require banks to set aside 60 percent more capital for U.S. Treasury holdings and 90 percent more for Japanese government bonds, said Vanessa Le Lesle, head of regulatory affairs in the Asia-Pacific region for JPMorgan.

“We are talking about quite liquid sovereign bonds that would be quite impacted, so even worse for emerging markets,” Le Lesle said at a conference organized by International Swaps and Derivatives Association in Tokyo on Thursday. “All of that points to some reasons why banks would be less willing to provide liquidity.”

Investment banks are pulling back from businesses that aren’t sufficiently profitable as stricter rules hike up costs. Capital charges for market risk may increase by more than four times if regulators press ahead with the Fundamental Review of the Trading Book proposals, industry groups said Oct. 21. Credit Suisse Group AG last week decided to stop making a market in government bonds across Europe and Deutsche Bank AG is quitting trading agency residential mortgage-backed securities.

Shift Seen

“If banks stop providing liquidity or reduce the liquidity provision, then who will provide it?” said Le Lesle. “We have already seen a shift to some other financial sector participants but not a full replacement of the banks.”

Stefan Ingves, who leads the Basel Committee of Banking Supervision, said Oct. 9 the new rule proposals will be finalized this year.

“We’re concerned about the impact this will have on market liquidity and various bank business lines,” Mark Gheerbrant, head of risk and capital at ISDA, said in an e-mailed statement earlier this month. “And the businesses that will be hardest hit will likely be those most important for the real economy, such as credit to small- and medium-sized entities, securitization and small-cap equities.”

The new rules may especially impede emerging nations that are still trying to develop their capital markets, said Le Lesle. JPMorgan is working closely with regulators in a “constructive way” to address concerns, she said.

Stricter international bank-capital regulations have already meant banks have less capacity to back their market-making business, where part of the role involves warehousing risk. The result is that prices can be more volatile for money managers and private investors.

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