EnvisionCap.com: Forbes Article - Bond Trading Goes On-line

Bond Trading Goes On-line

Marilyn Cohen, Forbes Magazine, 01.25.99

IT'S ALMOST IMPOSSIBLE for individual investors to get a square deal in the bond market. Unlike institutional investors with their expensive, real-time databases, individuals don't have transparency -- they can't instantaneously see prices across the market. So they put themselves in the hands of brokers, who pad their trading desks' markups.

SEC Chairman Arthur Levitt occasionally gripes about the bond market's unfairness. He hasn't done much about it, but the marketplace finally has. For the first time, individuals can buy bonds at competitive prices. It's happening on the Internet (no surprise), and it is the best deal I have seen in my 22 years in the business.

Behind this revolution are former retail bond broker Charles Almond and software consultant Joe Nirta, who created an electronic platform that securities firms can license to sell bonds on the Net. Their company, Bond Exchange, has a demo version at www.bond-exchange.com.

This is the future of bond trading, folks. You can search for bonds by type (Treasury, corporate, muni, high-yield) and by rating, coupon, maturity, industry and CUSIP number. Or you can just peruse lists of offerings. And that's not all. The electronic genie will do tedious calculations, spelling out call schedules and figuring the yield-to- worst-call for bonds with multiple call dates. Hooray! It will also help you build a bond ladder -- a portfolio of bonds with successive maturities -- showing all the data you could want, from average weighted yield to maturity to a monthly income grid.

Last month the on-line brokerage E-Trade rolled out bond trading using this platform. Next up will be Vanguard Brokerage Services, and then the discount arm of a national securities firm.

To test the system, I logged onto E-Trade looking to buy an investment-grade corporate, a high-yield bond and an AAA-rated, insured municipal. Most bonds were attractively priced. Prices on thinly traded issues were not very good, but the system lets you place a limit order to buy at or below your target price. There's a $40 fee when you trade a face value below $10,000 for a corporate or $20,000 for a Treasury bond.

Your only other expense is the markup, the profit tacked on by E-Trade.

The markups I checked were small. When I searched for an investment- grade industrial bond, maturing in seven to ten years with a coupon between 6% and 9%, E-Trade offered 46 choices. I picked the Anheuser- Busch 7.1% bond due June 15, 2007, rated A+ by Standard & Poor's. For a trade of at least ten bonds, the offer was at a price of 105.89 with a yield-to-worst call of 5.83%. Was this a good deal? Checking with my network of brokers, I found that this bond's typical retail price would be 108.50, for a 5.3% yield-to-worst call. That price is 2.5% higher than E-Trade's. No contest. A discount brokerage might come closer to E- Trade's price, but would be unlikely to offer as many choices.

Some Internet prices were less compelling. The noncallable Lockheed Martin 7.25% bond due May 15, 2006 was offered by E-Trade at 109.48, yielding 5.67% to maturity. At regular retail, you'd probably pay about 110, for a 5.6% yield.

And E-Trade fell down on junk bond pricing, probably because it is not yet well connected to dealers. A Musicland 9% bond due June 15, 2003, for example, was offered at 98; you'd pay about 97 at retail.

On-line muni prices were sensational, though. I searched for issues from California and New York with coupons from 4.5% to 6%, due in seven to ten years. From 25 choices, I picked the California Statewide Community Development 5.25% revenue bond due Apr. 1, 2006, rated AAA and MBIA-insured. It was priced at 108.46 for a 3.92% yield to maturity.

Institutional buyers were paying just a tad less, 107.85, for a yield of 4%; that was a good deal.

Am I worried that an on-line computer program will replace bond managers like me? Not at all. The hardest part of bond investing -- deciding which bonds to buy and sell among the hundreds of thousands available -- hasn't changed. The transparency of Internet trading will force better prices throughout the industry, and more investors will want to buy bonds. Some will do it on their own. For them, I have seen the future, and it's terrific.

Marilyn Cohen is president of Envision Capital Management®, Inc., a Los Angeles fixed income money manager. Visit her home page at www.forbes.com/cohen.