SEFs Get Down to Business

Terry Flanagan

With the adoption of final rules on swap execution facilities a fait accompli, SEF operators are gearing up for what promises to be a steady stream of business as mandatory trading of OTC swaps kicks in.

“The new SEF rules are a major milestone for the derivatives industry, marking a positive leap toward more flexible market structure that will drive greater transparency and efficiency in OTC swap trading,” said Lee Olesky, CEO of Tradeweb.

“While implementation of these rules will be a complex process, technology will streamline this evolution of liquidity and bring new opportunities for innovation and improved competition through electronic derivatives trading,” Olesky said.

On May 14, 2013 the CFTC finalized the rules requiring eligible swaps to trade on Swap Execution Facilities (SEFs). This concludes over two years of deliberations by the CFTC over the most effective way to regulate the over-the-counter swaps markets, with the intention of bringing greater transparency to this previously unregulated marketplace.

Once the rules have been published in the Federal Register, the timeline for implementation will come into effect. Sixty days after the rules are published prospective SEFs who have received temporary authorization from the CFTC may begin operating as SEFs.

“We have made meaningful investments in our CDS capabilities since we introduced electronic trading of CDS seven years ago and we have spent considerable time in the last few years preparing to operate as a SEF,” said MarketAxess CEO Rick McVey. “Our electronic trading volumes in CDS have been growing consistently over the last several years as the industry has embraced new methods of execution.”

GFI Group is deploying Flash Memory Arrays from Violin Memory to increase the speed and capacity of its trading platforms across all assets classes.

Replacing spinning disks with solid state storage is part of a larger project GFI is implementing to prepare its electronic trading infrastructure for its planned Futures Exchange “DCM” and Swap Execution Facility SEF, the company said.

As expected, the CFTC lowered the number of price quotes a buyer is required to request before trading swaps, from five to three following a transition period during which the minimum will be two. It also recognized the right of SEFs to transact business “by any means of interstate commerce,” a legal “term of art” that effectively permits swaps trades to be conducted by phone, as interdealer brokers such as GFI, Icap, and others have done for years.

“SEFs and DCMs will take advantage of the liberties granted to them by the CFTC yesterday and suspect that a race to the bottom will now begin to attempt to list swaps and build liquidity,” said Daniel Parker, vice president of solutions consulting at SunGard.

The CFTC finalized a rule to define when a particular swap has been “made available to trade,” or MAT for short.

“The CFTC has transferred all effective power to the SEF and DCM to dictate to the market what products are required to clear,” said Parker. “Now the challenge for technology providers will be to aggregate SEF data to achieve the full benefits of transparency and add value to the marketplace with regard to netting, portfolio optimization, analysis of economically equivalent products, and most importantly, reporting. Fragmentation will be the next problem to solve.”

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