Using Distributed Ledger Technologies to Disintermediate International Bond Markets: The Good, the Bad and the Ugly

Abstract

The long-lasting intermediated structure of international bond markets has come under scrutiny in recent times because of the risks it exposes final investors to, mostly in relation to the difficulties these investors face in enforcing their rights. Distributed ledger technologies (DLTs) have emerged as a strong contender in efforts to improve the position of final investors by shifting the market to a direct holding structure. In this context, it is necessary to ask if organising international bond markets under a DLT-based direct holding structure will effectively address the risks surrounding intermediated securities. Furthermore, it is important to assess the impact such a change is likely to have on other players in the market (including intermediaries and issuers), as well as on the financial system as a whole. With these questions in mind, this article begins with an explanation of the primary legal implication of holding intermediated securities, i.e., that final investors do not hold legal title over the bonds they have invested in because they are not engaged in a direct relationship with the issuer. The paper then proceeds to dissect the risks such arrangements expose investors to and contrast those risks with the benefits that intermediation afford to investors, issuers and the financial system in general. It is then argued that DLTs are not only inadequate to the task of addressing those risks, but would also eliminate most of the advantages of intermediation. The paper goes on to examine how investors and issuers are not incentivised to promote the development of a DLT-based bond market organised under a direct holding structure. It concludes with the suggestion that a better way to improve the position of final investors in bond markets is to explore how DLTs may enhance the benefits already created by intermediation, rather than relying on these technologies to eliminate intermediation altogether. In particular, it is submitted that DLTs may introduce efficiencies in the management of the bonds, the performance of obligations by issuers, the settlement process, the performance of securities financing transactions, and the provision of services by intermediaries.