The Case for CLOB

Terry Flanagan

The continuing debate over central limit order book versus request for quote trading on swap execution facilities may soon start to tilt toward CLOBs, according to Henry Ann, head of rates at GFI Swaps Exchange.

“The take up by the broader market place for central limit order book trading has not happened as quickly as people had originally envisaged,” Ann told Markets Media. “The market is still bifurcated with a dealer to customer market, where there’s RFQ, and a dealer to dealer market that is either voice or central limit order book traded.”

SEFs officially launched a year ago, and trading commenced in February with the Made Available to Trade (MAT) determinations. Since then, the SEF markets have become bifurcated, with dealer-to-consumer platforms such as Bloomberg competing with dealer-to-dealer platforms run largely by the interdealer brokers: BGC, GFI, Icap, Tradition, and Tullet Prebon.

The majority of buy-side users continue to prefer trading via name give up request for quote (RFQ), which is most similar to the old way of phone trading as is possible under the CFTC’s rules. However, there is one segment of the market where CLOBs could have an advantage, namely Market-Agreed Coupon (MAC) swaps. GFI has launched CLOB trading of MAC swaps on its SEF, RatesMatch, with clearing done via CME Group and LCH.Clearnet.

MAC swaps were created by Sifma and Isda as an over-the-counter swap product with pre-defined standard terms. They start on IMM (International Money Market) dates and trade with a pre-set fixed rate determined by SIFMA and ISDA. The standardization of product terms allows for line item efficiencies for market participants.

Key benefits of MAC swaps revolve around compression and fungibility of contracts, which in turn reduces or eliminates time-consuming unwind processes and market inefficiencies.

Traditional ‘plain vanilla’ swaps with on-market rates won’t net or collapse into a single line item at the clearing house, but MAC swaps, by virtue of standardized dates and a fixed, standardized rate, are fungible and will collapse into a single line item.

“If you buy a 10-year, 3 percent coupon MAC swap today and you sell it 2 weeks later then you have completely removed that line item from your book,” said Ann. “Whereas if you buy a 10 year vanilla swap today and sell it 3 to 4 months from now, you’ve eliminated your market risk but you still have all the obligations from both the original purchase and the subsequent sale of that swap, all the way down the curve until it expires.”

RatesMatch is a relatively new business for GFI, “which saw an opportunity to get into the rates business, where technology was going to be far more important going forward in the post Dodd-Frank SEF world,” said Ann.

RatesMatch is “a highly robust, feature rich platform” that has been built off of the backbone of EnergyMatch, which was built for the energy business, said Ann.

“The reason why we used EnergyMatch was because the platform was built for fast moving futures-type markets, and we realized that interest rates swaps were going to need a robust platform, and that was the one that was most appropriate,” he said.

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