Bond order handling and hidden costs
Jun 21, 2016 10:04 pm
Is your bond desk keeping something for themselves on your customer trades? Your desk shows you a bond offering from another firm, you recommend it to your customer, and the customer gives you an order to buy. You call your desk and instruct them to buy the bonds. When they confirm the bonds to you, you let them know how much sales credit you wish to work for. But is the desk taking something extra for their own benefit on this riskless principal transaction? As a bond trader, I often got this question from brokers. Naively, I would tell them, "No, it's unethical." Well, suppose you had factual evidence that indeed a bond desk was tacking on a trading profit to trades that are being paid for directly by your customer? When a customer gives an order to buy bonds offered to your firm by a third party dealer, that is known as an "order in hand." Because your firm is not at market risk for the millisecond that it owns the bonds in principal before immediately selling them to your customer, this is also known as a "riskless principal transaction." What would your reaction be if you learned that your customer's orders that involve no risk to your bond desk were in fact producing a trading profit for them, above and beyond your gross commission? What do you think would be your customer's reaction, if they knew that the extra hidden charge diminished their return?