Questions Persist Over Implementation Of OTC Derivatives Reforms

Terry Flanagan

The recent meeting of the G20 group of nations produced a statement reaffirming support for global derivatives reforms by the end of 2012, but questions still remain over how to implement one of the cornerstones of the reforms—the execution of standardized OTC products on platforms.

Although the derivatives industry is in accord with the principles behind the G20 commitment to trade derivatives on exchanges or electronic platforms, it wants freedom to implement such platforms in a way that’s suited to the peculiarities of OTC swaps.

Swaps today are traded through a combination of voice and electronic-based systems. Moving to an all-electronic platform could be feasible only for the most highly-liquid instruments. As such, the industry would like the flexibility of voice and electronics to continue in swap execution facilities, or SEFs.

“As the SEF world emerges, we will most likely see a hybrid environment,” Laurent Paulhac, senior managing director of OTC products and services at exchange operator CME Group, said yesterday at the Sifma Tech Leaders Forum in New York.

The Financial Stability Board, the G20’s regulatory arm, in a progress report on OTC reforms that was timed to coincide with the G20 meeting, noted that the U.S. is the only country that has enacted legislation on the trading of OTC derivatives on organized platforms.

An estimated 12% of interest rate derivatives are currently traded on organized platforms by the G14 dealers, an industry group comprising the largest derivatives dealers, the figures are 39% for credit derivatives and 51% for equity derivatives, according to the FSB report.

Volume on organized platforms is approximated by data on trades executed on electronic execution venues, including single dealer and multi-dealer. It does not include trades executed over e-mail, phone or messaging platforms.

The FSB said there are still member jurisdictions that have taken no significant steps towards proposing a legislative and regulatory framework for implementing this commitment.

“Lack of implementation by some jurisdictions in this area could create material inconsistencies that might potentially lead to regulatory arbitrage,” the report said.

Many of the building blocks for fulfilling that commitment have been in place for years.

For example, CreditMatch, GFI Group’s electronic trading platform for fixed income derivatives and bonds, has been in place since 2005 and forms a key part of GFI’s hybrid brokerage model.

“A lot of innovations have not come from the equity markets, but from the credit markets, which reflects the way we evolved,” said Francesco Cicero, head of e-trading at GFI Group. “We have extended the matching model from credit to other markets such as foreign exchange.”

CreditMatch displays fixed income derivatives and bond prices together on the same screen, which gives users information about what is moving these related markets and opens up more trading opportunities.

GFI’s experienced voice brokers assist CreditMatch users in executing large or bespoke orders—especially where anonymity and confidentiality are important—to avoid adverse market movements during execution.

GFI Group recently launched Open Matching, whereby participants can enter bids or offers at any time during the day.

“Historically, matching sessions were scheduled at fixed times during the day,” said Cicero. “With Open Matching, sessions can take place throughout the day and clients can trade anonymously.”

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