Debt sales businesses ripe for automation as bond e-trading takes off
17 September 2019
Source: Virginia Furness for Thomson Reuters, August 23
With banks' bond trading desks increasingly going electronic, another of the last bastions of old-school banking – the business of helping companies and countries raise capital – may be about to succumb to the tide of technology.
A clutch of start-ups want to disrupt the cosy world of syndicated debt sales, where borrowers enlist banks' help to raise capital from investors, by using new technology to shake up the sector.
"There is a lot of money spent on mundane work like data entry, which tends to be done at a very high cost, by highly paid people in highly expensive office space," said Richard Cohen, legal counsel at London-based Nivaura, which is pitching its digital capital markets platform to banks.
Such start-ups are touting a one-stop-shop digital platform that will automate the generation and tracking of deal-related data. It will end manual processing through artificial intelligence, blockchain and "smart tech". Some even hope to use their technology to connect smaller borrowers with investors directly, eventually cutting out middlemen banks altogether. Up against them is the world of primary syndicated debt sales, which has been slow to adopt new technology and is virtually unchanged in 25 years.
By contrast, equity and currency markets embraced the shift to electronic systems more than a decade ago and bond trading has gone the same way in recent years.
The resistance to the march of the machines comes down to the relationship-driven nature of bond sales. Successful pitches can hinge on person-to-person ties forged over lunches in City restaurants, while bankers leave a long paper-trail of documentation on deals that can take months of back-and-forth.
The sheer volume of analysis and the number of parties involved – from banks to law firms to investors – also make it harder to reduce primary dealership business to spreadsheets. Planning deals can take months of delicate negotiations between bank, borrower and end investor.
Banks' resistance to change may be overcome by the squeeze on profitability, however. Tighter regulation, competition and lower fees from primary bond issuance were behind a 7% fall last year in debt capital market revenues at banks tracked by analytics firm Coalition.
At troubled Deutsche Bank, debt origination revenues fell 19 per cent for the 2018 full year, from a year earlier, its annual report shows Global bond issuance fell by 4 in the first half of 2019 to $3.63 trillion, according to data from analytics provider Dealogic. A total of $11.7 billion was earned by investment banks in H1 for bond sales, the data showed.
Daniel Fletcher, partner in the International Capital Markets team of Allen & Overy said the primary dealing process could be automated from end-to-end for greater efficiency.
"Systems and parties are still disjointed; there are a lot of silos and you can to some degree automate or connect every part of that process," Fletcher said.
Electronification may boost banks' debt capital market (DCM) earnings by cutting costs and increasing deal volumes. Nivaura says its technology can reduce transaction times and costs by 55 per cent and allow personnel to be redeployed into higher value work.
These start-ups say their technology will also help smaller companies for whom bond markets can be prohibitively expensive, by reducing the costs of raising capital.
Improving the process may also prove crucial at a time when developed governments are preparing to issue more debt to fund infrastructure in a bid to boost growth.
Charlie Berman, a former Citi and Barclays banker who co-founded Agora, a start-up looking to streamline bond deals, described the documentation needed for a governments to raise infrastructure financing as "nightmarish".
Art not science
However, many bankers say the advisory nature of debt origination and syndication, which practitioners describe as an art not a science, cannot be replaced by data-churning machines.
And there are concerns that the technology will accelerate job cuts across the banking sector if automated platforms see borrowers connecting directly with investors.
Jean-Marc Mercier, global co-head of DCM at HSBC, said newer technology would help bankers better understand the investor base - for instance how they might trade the bonds or how "green" their credentials are - using live analytics and a vast database to track the profile, previous orders and trading behaviour of the buyside.
But the choice of when to launch a deal or at what size needs the human input, he said.
"We have seen some of the startups trying to allocate wealth to funds automatically and it is fine at a low level, but do you trust a machine?" Mercier said.
"As soon as you have a bit more money involved, you want to see the white of someone's eye, and trust they are doing the right thing."
Indeed, initiatives to connect issuers directly with investors are yet to take off.
Europe is still consulting on a new issuance platform – European Distribution of Debt Instruments (EDDI) – which banks would use for book-building, pricing and settlement of bonds.
In the United States, Project MARS, a platform for corporate bond issuance backed by a consortium of banks is trying to connect investors directly to issuers but is making slow progress, according to people familiar with the product. Agora's Berman says it is premature to expect bond-issuing companies and governments to ditch bank intermediaries and go to market directly.
Instead, Agora aims to use distributed ledger technology -- a confidential permissioned blockchain -- to replace the paper-trail and manual processes involved in bond deals.
"It is fashionable to say we don't see a future for banks but that does not acknowledge the huge complexities involved such as managing counterparty risk, complying with know-your client and anti-money laundering (regulations)" Berman said. "I don't see issuers and investors wanting to face off against each other anytime soon."