SIFMA recently hosted a special year-end briefing on the outlook for the economy, the markets, and the industry. Thomas Pluta, Global Head of Linear Rates Trading for JPMorgan Chase & Co. and Chair of SIFMA’s Board of Directors, and Kenneth E. Bentsen, Jr., President and CEO of SIFMA, discussed key trends in the capital markets as well as an overview of SIFMA’s priorities on behalf of our members in the year ahead.

The following highlights excerpts from their conversation.

The Data Download

Ken: After just 18 months from the COVID-driven peak and market turmoil, the U.S. economy is humming along, facilitated by the strength and resiliency of our capital markets.

Even as inflation remains elevated, markets continue to climb on strong company fundamentals. The S&P 500 index is up 24% from the start of the year. Companies have strong balance sheets, which they were able to shore up last year with $2.3 trillion in corporate bond issuance which was a 60% increase year over year. This helped them weather the storm and post good earnings results this year, driving equity markets higher.

Equity capital formation looks to have another banner year as well, with IPOs (not including SPACs) already well ahead of the total 2020 deal value at $147 billion, or a 104%, increase year over year. This comes on top of a very strong IPO year in 2020, with an 85 billion dollars in deal value, which was a 75% year over year increase, reversing the long-term decline seen since the early 2000s. In fact, the $148 billion this year beats the 1999 and 2000 peak year of around $107 billion. We’ve also seen a reversal in the trend for number of listed companies now at around 5,700, which is a 78% increase year over year, moving closer to the 6,000 level not seen since 2006. While not the same as seen at the COVID peak, markets are not without their drama this year.

In January, GameStop jumped to a $350 price from the start of the year. And this in turn drove up volatility, with the VIX peaking at 37.21 on January 27 and posting a 24.91 average for the month, up from 22.37 in December. Equity volumes increased as well, finishing the month with 15.6 billion shares, the same as seen in March 2020 and up from 11 billion in December of 2020. Daily peak on January 27, was 24.5 billion shares, while markets have settled from the start of the year, volumes and volatility remain elevated to historical levels, and market participants expect this to continue. Earlier this year, we surveyed market participants on what they expect to be the new normal. Respondents indicated that they expect the VIX to remain in the high teens to low 20s range, with equity average daily volumes around 10 billion shares. This is up from about around 15 for the VIX and 7 billion shares for Equity 80V historically.

It’s also been interesting to watch the growth in options volumes with which reached a new high in November at 44.4 million contracts. This is well ahead of our survey, where respondents anticipated the high 20s to low 30s level. As to whether or not the survey respondents expect market volumes to return to historical levels, no one believes that this will be the case for options, and only 6.3% expect equities at average daily volume to return to historical. 56.3% of our survey responded that they expect markets to continue to expand, but at a slower pace. Additionally, as to retail participation for equities, respondents estimated that retail at 20 to 30 % of the market as per 84 % of those respondents, which is up from 10 % historically.

Total equity issuance is already ahead of last year’s value with a year to date increase of 22.9%. IPOs, I referenced above, I would note for SPAC total is twice last year’s deal value, with one month left to go in the year. In addition, in the fixed income, we’ve seen total fixed income up 12.4 % year over year after the 44 % increase in 2020. Obviously, US Treasuries have been up quite dramatically at 35.7 % year over year, following a 32.7 % increase last year in the corporate bond market, we’ve seen a drop off in year over year issuance at a total of 1.867 trillion, but that followed a 60 % increase, as I noted in 2020. In the municipal market, we’ve seen a drop off again after a dramatic increase last year, a 13.6 % increase in 2020. That’s dropped off year to date and down 3.9 %. And in the NBFCs market, year to date is up 10.2 % over last year, where 2020 we saw a 78 % increase as well.

Economic Survey

I do want to note before I turn it over to Tom, that in addition to today’s, we will be having a later program on where SIFMA will be releasing our Economist Roundtable semiannual survey, which compiles the median economic forecast of roundtable members and looking at their expectations for GDP, unemployment, inflation, interest rates, among others. And just to highlight what we found in the survey, which again will be released later this afternoon, the median view in 2021, the GDP growth is expected to be 5.2 %, unemployment rate is forecasted to end the year at 4.5 %, core CPI expected in the year 4.9 %, and there will be much more data on that from our survey.

SIFMA Priorities

Tom: Thanks, Ken. I’m going to run through 5 or 6 of the current supply priorities and we’re going to be focused on into 2022 and Ken will do the same. Mine are mostly related to fixed income markets where I where I have my day job.

The COVID-19 Crisis

The first issue I wanted to talk about is what we’ve all been facing as an industry over the last 20-22 months, and we’ve all been through many market crises in our career, but nothing could have prepared us for what we’ve been through the COVID-19 crisis because we were dealing both with a global market crisis and a public health crisis, where personal health and safety was at risk, so that made it very unique.

This was really the ultimate stress test for industry, and I think we passed that test with flying colors as we ensure that markets continue to operate efficiently and effectively throughout the crisis through massive volumes and extreme volatility. This, I think, highlights how all the advanced planning that we’ve done, the playbooks that we put in place, the business continuity exercises that we all work on every year were quite critical to make sure that the transition was smooth, and I think the transition to work from home environment and remote environment went much better than most expected. I think we should all be very proud that our markets never closed. We operated through these panicky times until things settle down and normalized.

I think this really highlights the tremendous dedication of our employees, but it also highlights the need to address on a go forward basis the desire for a greater degree of flexibility, remote work arrangements as we navigate this new normal. It also highlights the need to address some outdated protocols, and these are some things that SIFMA is also working on, such as the materialization of securities processing, reconsidering how we conduct remote inspections and what constitutes a branch. Also, I think this highlights the need to hasten the transition towards delivery of documents.

NBFIs

Onto some of the some of the topics, first one to highlight is the FSB review of non-bank financial intermediation. The Financial Stability Board’s Book of Work focuses on areas including resiliency of money market funds, open end funds, government and corporate bond funds, and the impact of post financial crisis prudential regulation. SIFMA is actively engaged with key domestic and international policymakers on these issues, couple of highlights: Money market fund reform — the final report on that came out in October from the FSB, and we expect that national and regional jurisdictions will now consider whether to implement any of those proposals. And in 2023, we have a number of things coming up with respect to bond market reform across corporate bond markets, government bond markets and margin practices, so that will be a big area of focus next year.

US Treasury Market Structure

Next topic to mention is U.S. Treasury market structure reform, this is one I’m personally very actively engaged with, and it’s quite a hot topic. We’ve been through a number of market shocks in recent years that have exposed some of the vulnerabilities of the U.S. Treasury market and highlighted the need to consider market structure reforms. There’s been a number of excellent academic papers come out over the last year, as well as the IAWG report, the Interagency Working Group, which came out last month, and a lot of these reform topics were discussed at last month’s U.S. Treasury market conference hosted by the Fed in a number of other regulators. There’s a number of specific proposals under consideration, including expansion of central clearing of Treasuries and U.S. Treasury repo proper calibration of key regulations, some of which have negatively impacted the ability of dealers to intimate and to mediate in the Treasury markets, specifically, supplemental leverage ratio and GSM increased transparency through expanded trade reporting is being discussed and the benefits of a standing facility which the Fed has recently implemented.

For us, I think when we look at the combination of proposals that are out there, there’s two overarching things that I think we need to keep in mind, and one is supporting or increasing principal liquidity provision by dealers who remain the key intermediaries for clients all types, and secondly, balancing the need for public transparency with participation and liquidity to support large long term investors and treasury securities that fund our deficit. On the dealer liquidity provision, I’d say one unintended consequence of the combination of regulations that have been put in place capital liquid liquidity leverage since the since the GFC has caused a number of banks to shrink their footprint in this market. Once that, I think, is very telling is that since 2007, the Treasury market is increased 4 times — it’s 5 times the size it was in 07– yet the other balance sheets committed to U.S. treasuries is fairly constant, so as a result, dealers hold US treasuries, and I think that leads to these bouts of illiquidity that we’ve seen at times.

On the trade reporting topics and transparency topic, I think it’s critical that any increase in public trade reporting is carefully considered. The Treasury market is different from in other markets, and that is largely a principal market. We’re dealers taken warehouse risk. So how trade information is disseminated very much impacts the ability to provide type prices. I think we’ll have to very carefully consider increasing public trade reporting specifically for illiquid securities. And I think that it’s important that end user investors are included in these conversations. But SIFMA has done a lot of great work on this topic and we look forward to continue continuing that dialog with the Treasury and regulators going forward.

SEC Rule 15c-2-11

The next one I’d like to highlight is FCC Rule 15 C two 11, which was previously very obscure rule. It’s now kind of in the forefront, and this rule, among other things, requires broker dealers to collect and review specific for issuer information and confirm that such information is publicly available before publishing prices in the U.S. market. Now, this rule was introduced in 1971 primarily to reduce fraud and manipulation of retail investors in the equity markets, and for the last 50 years, the industry has interpreted that the rule was limited to equities and didn’t apply to fixed income. But the SEC recently has taken a surprising view in our view that is always applied to fixed income and that the industry now needs to comply, so that the initial date for compliance with September, there was no action relief until January 3rd, which is fast approaching, and there’s a lot that needs to be addressed before then. So SIFMA has been actively engaged in this advocacy effort.

We recently submitted a letter to the FCC requesting exemptions for 15 categories of securities, as well as a counterparty based exemption for institutional investors. We continue to think that it’s applied as written, this would be a misapplication of the rule and outside of its original intent, and we’re concerned that there would be negative impacts on the fixed income market, including investors, market makers, and issuers, and to compromise liquidity and transparency. We’re going to continue to focus on that in the weeks and months ahead. Regardless of what is implemented here, it will take significant time for the industry to adopt it, given that it’ll involve very large changes to systems to work flow and flotation processes.

Prudential Regulation

Next topic, just to mention on a high level is prudential regulation. It’s something we spend a lot of time on supports appropriate regulation of capital markets and the participants by both market and prudential regulators, but we feel that at times these prudential rules treat capital market activities as riskier than commercial lending activities without the evidence to support that. The US prudential rules often impose significantly higher capital and liquidity costs on banking entities that have significant capital markets operations, and that increases costs on those firms and ultimately raises transaction costs to end users. It’s important that the forthcoming reforms, the FRTB in the next one coming out next year, it’s important that these reforms are implemented in a way so as not to impair markets, particularly less liquid fixed income markets, and SIFMA’s work is focused on encouraging coherence to these rules so that capital is allocated in an efficient manner to market activities.

The Transition from LIBOR

I will transition to the next one I want to talk about. This has been a massive, combined effort of industry, government, and regulators over the last 7-8 years in moving off of LIBOR and 5 jurisdictions that have led war to alternative reference rates. Now the scope of the challenge is massive in the US., LIBOR encompasses two hundred and 23 trillion of financial products, and that’s everything from loans, securities, mortgages, derivatives, and it touches every corner of our financial markets and every type of participant—corporations, governments, agencies, small businesses, and individuals. in the US so far, is the replacement rate that’s been chosen by the art and the industry to succeed LIBOR and LIBOR will cease fully on June 30th 2023. Before that date, about 2/3rds of the existing portfolio of contracts will expire, but of the remaining 1/3rd, there’s a there’s a portion of about 3 trillion dollars of contracts that referred to as tough legacy in these contracts, are not covered by robust fallback options. In other words, in the contract, there’s not a specific successor to when LIBOR goes away. The issue here is that if this portion isn’t addressed, there’s a big risk that when the trustee or the bank is forced to choose a replacement rate, it’ll end up with conflicts, with disagreements, with litigation and get tied up in courts, delaying receipt of interest payments, and that’s something that we’re all trying to avoid.

So SIFMA is supportive of the federal legislation currently in Congress. It’s adjustable interest rate and sponsored by Representative Brad Sherman, which addresses this legacy problem. It’s aligned with what the arc is recommending, and it’s a bipartisan effort here, which is the good news. Essentially, this legislation for that group will specify that the success rate is SOFR, plus a credit spread, and by applying this to the tough legacy, it provides a certainty of outcomes for all participants fairness and equality by not forcing trustees to pick one raid and different people getting different outcomes and ultimately to avoid that litigation that we’re trying to avoid now. The good news is as widespread support, it is a bipartisan effort and it’s being taken up on the House of Representatives this week, and we have some cautious optimism that it may get through both the House and the Senate by year end.

Crypto Assets

Final topic that I just want to touch on before turning it back over to Ken is crypto assets. There’s a lot going on in the in the crypto space, obviously. And the US banking agencies are working on their crypto sprint initiative, and they just gave some guidance recently on that. Essentially, that effort is to provide to the market greater clarity on what crypto activities are permissible by banks custody approach to stablecoins, facilitating clients, buying and selling crypto assets, loans potentially collateralized by crypto assets, things like that. SIFMA has been working with other trade associations, also in response to the Basel Committee consultation on the prudential treatment of crypto asset exposures, we worked on a Joint Trade Association letter there, also submitted our own letter, which supported the Joint Trades Response, and urged the prudential and market regulators to work together to develop a comprehensive approach and clear guidelines on how crypto assets would be treated.

Our feeling here is that future regulation should really strike a balance among innovation and growth, as well as regulatory conservatism to minimize market fragmentation and to ensure a competitive and fair playing field across the financial services marketplace. We also are recommending that the regulators consider an interim framework for the treatment of these assets, given that we expect that the Basel process to really run through 2023, so the benefit of an interim framework, it would be critical, so financial institutions can calculate capital charges on these exposures as client demands for a variety of services continues to increase in this fast-moving space. So I’ll pause there and turn it back over to Ken.

The Regulatory and Legislative Agenda

Ken: A couple of other things I’ll hit on: what’s on our agenda, what we expect to see on the on the regulatory agenda or legislative agenda,

Equity Market Structure

Equity market structure–if something, SIFMA has actually has been engaged with for many, many years–looking at Reg NMS and where changes could be made, there was activity on this last year around market data, which is something that we have long called for, adding more competition to that. But in addition to that, Chair Gensler at the FCC is as indicated that his intention to look at other aspects of Reg NMS, including things such as the embargo and how that’s calculated payment for order flow, order execution, short selling margin issues, and in fact, right now there’s a pending rule proposal with respect to securities lending that we are very much engaged with.

Municipal Markets

In addition, in the municipal market, we were pleased that the bipartisan infrastructure legislation included additional authorization for a new facility, private activity bonds for qualified carbon capture facilities and broadband projects, as well as increase in the path’s cap for highway or end surface transportation projects. However, we’re disappointed that at least as of now, as part of the budget reconciliation bill, that previous efforts to include a restoration of advanced refunding, small issue bond increases, and pay bonds seems to have fallen out. We think these are critical tools for state and local governments really, where most of the infrastructure finance occurs, and so we hope Congress will seek to either put those back in the reconciliation bill or pass them in another in another means.

Derivatives

In the derivatives space, we’ve been actively involved engaging with the regulators on various bilateral, cross-border substituted compliance agreements that are part of the underlying framework of the CFTC and FCC swaps rules. In addition, the finalization of the SEC securities backed swap rules and then we look to work with the regulators as they seek to harmonize the swaps rules between the CFTC and the FCC. In the operation space, last week, SIFMA, along with the Investment Company Institute and DTC, put out a paper detailing what issues need to be addressed to move settlement cycle from T+2 to T+1 with a target date of the first half of 2024. As you may recall, SIFMA, ICI and DTCC led the effort a few years ago, moving from T3 to T2. This is a tremendous undertaking that will add resiliency to the markets and take risk out of it. It’s also very complicated. It affects a number of business processes and protocols and something that we will we know from previous experience will take a lot of work, a lot of testing to make sure it’s done right and not add more risk.

The CAT

With respect to the consolidated audit trail, we continue to work to implement the CAT dealer community has all the responsibility and really none of the authority with respect to CAT but we have marched along through the pandemic to work with the SROs to stand up the trade data reporting. Ahead of us is the case or the customer data reporting component of CAT. We continue to have concerns around the amount of PII that’s collected in that and the potential risks, cyber risk, to that, and we’re eager for the FCC to move forward on their data privacy rule making, which is pending, which we think goes a long way in mitigating that. But there are many other issues to be worked out with respect to the CAT.

Cybersecurity

We continue to emphasize our work on cyber. We just had our 6th biennial cyber industry wide cyber exercise Quantum Dawn 6 a couple of weeks ago, which really explored dealing with the global ransomware attack. Something that we’ve learned through the pandemic and known before the pandemic is that the cyber attacks continue to increase, they continue to mature, the need for training resiliency, regular engagement is only increasing during the pandemic, cyber increased and so tremendous work continues there.

Wealth Management

In the retail brokerage side, the management side, obviously, last year, we worked on implementing REG BIs as it became effective in June 30. This year, we’re working in terms of how the regulators are viewing this as part of their examination process, as well as the Department of Labor, and there are prohibited transaction exemption related to REG BI. We’re also focused on states who are still looking at possibly doing their own fiduciary, which we think they should wait and let REG BI move towards full implementation of fruition. We’re also engaged in the SEC’s review of digital engagement practices– just note briefly that we think REG BI gives the FCC all the tools and authority that it needs, where it views digital engagement as having a form of recommendation. And in the retirement space, we’re eager to see the House and Senate follow on their previous efforts and with the Secure Act, with a Secure Act 2.0, their bills have been introduced in both the House and the Senate, bipartisan bills with their strong support, and we’re eager to see that happen.

ESG

There’s a couple of other things I’ll mention in the ESG space. We expect the FCC to put out a FCC disclosure rule for issuers, we’ve been engaging with them on that and a view that it’s important work to be done. Working with our colleagues at our global group at GFMA we’ve been involved in a number of studies around the development of sustainable finance markets, carbon trading markets. And then with the Department of Labor also putting out their ESG rule, which we are supportive of in how plan managers can provide ESG investments for plan participants at their demand in the tax space.

The Reconciliation Bill

We’re obviously watching the reconciliation bill very closely. We’re principally focused on the international provisions. The bill, as the reporters know, remains fluid at this point, and we’re watching to see what the Senate may do in other areas. I would note we’ve been very clear with Congress and the administration that they do need to move to address the debt limit. Not extending the debt limit or defaulting on the debt is an unacceptable response. We obviously watch this closely through our rates group and preparing for the potential of something but a voluntary default is just something that is unconscionable, and we encourage Congress and the administration to not do that. On the international area, we’re focused on a number of areas U.S., U.K. trade agreement, now that we’re in the post-Brexit world. U.S. engagement, U.S. financial services engagement in Europe, in the post-Brexit environment as well, and obviously following the China situation where member firms are active, but also around various sanctions policy.

Diversity, Equity & Inclusion

Lastly, I just touch on diversity, equity and inclusion. This is something that has been involved with for many, many years. We have a robust DE&I council comprised of more than 60 firms that cut across a really broad swath of the industry. They have a 6 pillar approach that they are involved with in their own firms of enhancing DE&I within the industry. In addition, at the direction of our board last year, we have begun a number of programs targeting HBCUs, HSIs, and MSIs and to build more engagement between the industry and college students, and also build hopefully a pipeline of potential talent through the internship and recruitment program. And we’re also working with our friends at FINRA and their SIE exam program, where we can also work with HCBUs and HMIs and MSIs, so a lot of work going on. Tom and I are happy to take questions.

The SEC’s Rulemaking Agenda

Ken: We’ll see. The chair has been very clear. There are a number of issues. He’s asked the staff of the SEC to review and make recommendations on. They’ve started to put out some rules I was remiss in noting that in addition to the securities lending rule, the SEC also put out a proposed rule around electronic record keeping, which is something that SIFMAs worked on for at least a dozen years, something known as is in the vernacular as WORM, [inaudible] That’s really sort of a 20th century paper based rule and, looking to update that, we think that’s a very positive development. Securities lending rules, it’s a very robust, detailed rule. We’ll see what is coming next. We’ve been engaged with the chair around T1. He’s obviously, as I said, looking at doing a lot in equity markets, fixed income markets, he’s talked about the Treasury market, that will be very much a joint effort at the Treasury. The thing that’s going to be important in all of this rulemaking is it takes time to really understand what the regulators are seeking to accomplish, and that’s true on both with the industry as well as with the regulators themselves. And it was important to give everyone time, I’d say more than 30 days when you put out complex rule proposals, to really make sure that they’re through the notice and comment process you’re getting a sufficient amount of information to make the appropriate judgments and trying to do a final rule.

Tom: I was going to make the same point. I think the 30-day period to respond to these NPRs is very tight. But as far as the overall agenda, it’s definitely an ambitious agenda. There’s a lot of things that we’re supportive of addressing–some things we agree with, some we don’t. But I think it’s great that a lot of these different areas of the industry are being looked at and we will make changes that’ll improve the markets and move forward, but the timeframes are tight on a number of these things.

Return to Office

Tom: I think the challenges have been it’s been a bit of a stop and start. We kind of had a false dawn, I think, last summer. There was a bit of a return and then you get another wave of the virus and people kind of retrace again. I think it’s a very tough balancing act to figure out the right place of getting people back. As we mentioned, there’s definitely–given that we’ve learned that a lot of what we do can be done remotely, depending on the job function. People are asking for a better work life balance and reducing commutes, and firms are wrestling with how to grant more flexibility going forward. The other thing is approaches to vaccinations and whether to prohibit people who are unvaccinated. There’s a lot of a lot of challenges as well as we’re working through it. But all in all, I think we’re in a good place and we have to work with the local jurisdictions and follow their guidance and rules as well.

Ken: I would add, I mean, it’s very interesting. We spend a lot of time talking to the membership about this and have since we spent a lot of time in April of 2020 through the summer of talking going remote when the industry went 90% plus remote. And then, you know, as Tom said, you know, started shipping back to return to office with fits and starts and I’d say even up through, well, even today, it’s not monolithic across the industry. It’s not even monolithic within firms. To some extent, every firm has a different approach of how they’re doing it based upon their business model. Certain functions certainly have been back in the office more than others, perhaps.

And to Tom’s point, a lot of firms have figured out a lot of things can be done remotely and actually have worked out quite well. Tom mentioned, you know, we’re engaged with federal and state regulators around sort of the future of work, which what executives report to me is going to include some form of permanent remote working for certain types of employees. But some of that’s going to be employee demand, some of that will be employer demand, and we’re going to have to figure out how to update our examination process, as Tom said, figure out what do you determine as a branch versus not a branch? And this is something that I think everyone, even the regulators themselves with as many regulators, by the way, are not back in the office as well. They’re working remote also. This is going to be an ongoing work stream for us and something the firms are, on the one hand are struggling on how to get to where they think they need to be and how they engage with their employees, but at the same time, showing that the markets continue to march along, which is really quite impressive from my vantage point that we walk through this.

Tom: The other thing I’ll add is that we’ve learned that flexible work arrangements can be a recruiting tool or a competitive advantage. So you kind of want to be somewhat in step with your industry. Otherwise, employees may choose to go elsewhere for more flexible environments. And then we also need to consider that, a lot of our employees are not just in demand within the securities industry, but by other industries like technology, which tends to have a little more of a remote work at home culture. We’re all trying to navigate this, we want to retain our people. We want to provide the variance for them while continuing to fulfill the missions of our own businesses.

Thomas Pluta is Global Head of Linear Rates Trading, JPMorgan Chase & Co. and Chair, SIFMA Board of Directors. Kenneth E. Bentsen, Jr. is President and CEO of SIFMA.

 Related Resources

• 2022 Capital Markets Outlook
• End-Year 2021 Economic Survey
• Monthly Market Metrics & Trends