Market unflustered by SEF Big Bang
NEW YORK, Feb 14 (IFR) - Mandated trading of over-the-counter swaps on electronic exchanges is finally set to become a reality three years after Dodd-Frank became law, but is unlikely to deliver the revolution market participants had predicted and many politicians may have hoped for.
As of February 15, benchmark maturity interest rate swaps in US dollars, euros, and sterling will be traded on swap execution facilities.
It is an unprecedented shift in the way such contracts are traded, but in reality may represent a test of compliance rather than an upheaval of market structure.
"What has surprised me is how smoothly this has gone on the whole," said the COO of a major US credit fund.
"When you're in the weeds, the operational issues are everywhere, but you really don't hear a lot of people whining about how everything has changed. The bigger entities in the market are quite prepared for this."
Over the past four months, industry applications have been rescinded, regulatory no-action letters issued, and SEF legal agreements amended in an effort to find a compromise. The result is a market that has been bracing for a Big Bang since rules were finalised over the summer.
"Large-scale change typically doesn't occur at revolutionary speeds, it develops more slowly".
"The changes in the market place will be observable; we'll see volumes rise on certain platforms where buyside firms typically trade, but I don't expect a Big Bang. It will be a natural evolution," said Peter Best, COO of inter-dealer broker turned SEF, ICAP.
"Large-scale change typically doesn't occur at revolutionary speeds, it develops more slowly.
Total gross notional outstanding of interest rate swaps across the three currencies totals USD321trn, according to figures from the Bank for International Settlements - a big portion of the USD693trn OTC derivatives market. But the mandate only applies to US entities and key maturities.
Most, if not all, existing SEFs also have fully functional request-for-quote systems that allow buyside firms to request prices directly from a minimum of two sellside firms when executing.
Additionally, start-up SEF Javelin Capital Markets scaled back an initial application to list all IRS instruments on exchange in December, so participants can execute forward-starting swaps and unwind existing benchmark swaps bilaterally via voice.
A week before the deadline, the CFTC clarified that packaged transactions involving a swap that was mandated for trading would not be required to be traded on an SEF. In other words, a 10-year IRS paired with a 10-year Treasury future can avoid the new requirement.
The CFTC also eased concerns about the reach of SEF rules outside of the US when it confirmed that US banks would be allowed to execute swaps on European trading platforms that were not registered as SEFs, even after the mandate hits.
"Everyone I've talked to has had the same perspective; I cannot allow the problems with SEF implementation to substantively change the way we do things. I'm frankly pleasantly surprised that we've been able to make the adjustment as quickly as we could," said the COO.
"Large-scale change typically doesn't occur at revolutionary speeds, it develops more slowly."