Industry debate and perspective around the responsibilities surrounding trade reporting requirements under the Dodd-Frank Act is certainly in full momentum. Last Thursday, a panel discussion took place in London between senior executives involved in the trade clearing business, which further attested to the intricacy of such matters in the minds of those at the forefront of the industry.
There are indeed many facets relating to the proposed deadlines and how firms in the institutional sector will adapt their model to ensure compliance, as well as those who have done so with certain deadlines already passed.
The discussion, moderated by FXWeek’s Joel Clark, centered around four main topics, which included detail on which trades should be reported and in which jurisdictions, and which entity should carry out the reporting process. Secondly the subject of Swap Execution Facilities (SEFs) was debated, with an emphasis on which platforms will qualify and whether the FX market is ready to trade on SEFs. Lastly, it was discussed as to whether there could be a commercial benefit to firms as well as a regulatory mandate for clearing.
Who Reports To Whom?
Jaqueline Liau, FX Prime & Global Head of Product and Service at HSBC commenced the reporting by explaining that from her perspective there is a degree of ambiguity in the marketplace as to which parties are expected to conduct the reporting: “There is plenty of confusion in the market from both buy and sell-side, and it is unclear as to who reports what trade information, and who has to carry out the reporting” said Ms. Liau.
Speaking about the initial stages of the nature of the ruling and the reaction to it, Ms. Liau said “Plenty of people were suspicious about what data was reported.”
The panel began to demonstrate their view in relation to the progress made so far in terms of attempts made to comply. It was agreed that currently in the us there are some subsets of FX trading which are still illegal in terms of their trade reporting. This is possibly the case because due to issues relating to the complexity of the rulings and their interpretation by companies, and that such compliance is hard to achieve under CFTC rules. There are a lot of firms which need to upgrade their technology in order to comply.
With regard to this matter, ForexClear CEO Gavin Wells explained: “There are some changes to how we report. We report on our own information in the US and Europe. The deadline relating to the ability to report trades was January this year for the US, and will be next January for Europe. We have always reported trades.”
“For us, the additional part surrounding transparency of Central Counterparty Clearing Houses (CCPs) activites is still a little unclear. We are still working to understand what the regulators want us to make transparent, and how we will be required report such information to them” stated Mr. Wells.
Mr. Wells completed the picture by focusing on the hardware requirement: “Middleware infrastructure has evolved and changed too early. There is no trade confirmation service for FX at the moment, and there is a need for firms such as Traiana to match and report the trades in order to build the infrastructure correctly.”
Ms. Liau concurred with this, however she was quick to point out that the responsibility for reporting should come from both sides: “Dual responsibility of reporting on both sides is the sensible way to operate. Buy side firms have very robust infrastructure, and all of them have to report. Therefore firms have to make a collective decision whether they want to be responsible themselves or go through a service provider and outsource it.”
Better to be SEF Than Sorry
Mr. Wells answered that “if you are revealing large trades to a public environment it is important to take into account methods of proper calibration. Bringing in a calibrated system over time is the way to go. There has already been some loss of the data being made transparent, and migrating steadily will mitigate the risk of lost data”.
Ambiguity Over Definition
The implementation of the rulings associated with trade reporting has a timescale. Mr. Wells explained that the January date was set for futures and equities, and the deadline is 90 days later for the FX market.
Some difficulty in conveying the clarity of what is expected has been experienced, as Mr. Wells explained during the discussion: “In Europe there is still some ambiguity as to the actual definitions set out by the regulators. Everything in the EMEA region is taken from definitions relating to financial insurance. We are used to and can read those definitions. The regulators look at this for commercial purposes as 7 days and upwards for a swap. Different countries look at it differently. This is something we are working through and are involved in establishing what exactly classes as a spot/swap according to the Dodd-Frank rulings.
When Is A Swap Not A Swap?
Nick Solinger, CMO of Traiana believes that “everyone should be able to hit their price whether the price is disclosed or anonymous. Most technology providers are on their way to providing this facility on their platforms. At least one FX Platform provider has updated its platform to facilitate SEF compliance already.”
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Mr. Wells continued: “On the rules themselves, and what the SEFs become and how they trade, I wouldn’t venture opinion but I can assure you that they are becoming a source of trades. In the first instance, within the next 12 months the link between CCPS and SEFs will be established. Credit hubs will become involved in the market, and they will work out some three-way means of working out certainty in the market.”
Mr. Solinger then demonstrated his concern over potential latency in closing orders caused by reporting obligations: “If you trade on Reuters or EBS, your trade is done at the point of execution; therefore we have to ensure the process of clearing relationships doesn’t make us take a step backward, and take up time on the pre-trade side, yet still ensure it complies. There is still work to do to closing the gap. An order gets approved, sits on the book for 2 hours, this gap must be closed.”
James Kemp, Managing Director of the Global FX Division at the Global Financial Markets Association (GFMA) had a question to ask on this matter. The question he posed to the panel was: “What is surprising about the rulings surrounding SEFs is that there are only 2 regimes looking at execution requirements, which are the US and Europe under the Dodd-Frank Act and MiFID rulings. How is this going to relate to trading globally in these products?”
This raised a series of opinions across the panel, the conclusion of which was that the majority of jurisdictions have made a link between clearing requirement and execution mandate. What took many industry executives by surprise at the time of the rulings being announced was that any many-to-many platform, even if no clearing mandate is applied, has to register as a SEF under the Dodd-Frank rulings, therefore there creates a SEF-like regime. This is still in its early development phases and relates to ownership of platforms.
Ms. Liau’s viewpoint is that: “Within the SEF trading requirements, there is a reduced number of quotes. I see this as a positive step. Voice trading is still allowed, which is also good. When it comes to FX products we still have to work out realistically how to get a clearing system for FX options and when it comes to NDFs we need to find out when we will need clearing mandates for clearing NDFs.”
“This may be 2014 in the US 2014 a bit later in Europe. Hong Kong and Singapore have put it back, I expect it to be probably effective in those regions at the end of 2014. On this basis, we are unlikely to see much SEF activity in FX for some time.”
The Single Or Multi Dealer Question
Ms Liau debated as to whether banks should “continue to invest in Single Dealer Platforms (SDP) or switch to Multi Dealer Platforms (MDP)”. In her opinion, the answer would be “to go with a bit of both.”
“A lot of banks have spent a vast amounts of time and energy on MDP but they cling on to SDP as a way to link into their clients. The SDP platforms will have to evolve, including smart order routers so that they can send the order into a SEF or other SDPs, and they should offer algorithmic trading so that traders can access multiple SEFs” Ms. Liau elaborated.
“These are common in equity and futures, but not in FX. Many banks are looking to do this with SDPs at the moment. Also SDPs are going to start to learn how to do post trade reporting, research, and risk analytics. This way, it becomes more than just a principle to principle platform, and is more than just a means of processing peer to peer transactions.”
“We are going to see a rise in the quality of platforms from banks. It isn’t going to be so much about speed and latency, I think there are a lot of other services which need to be set into SDPs, meanwhile we cannot afford to ignore MDPs” she stated.
Mr. Solinger continued: “Looking at MDPs, how can changes be characterized? There are a number of considerations involved here, which are legal ownership, the structure of who can own a SEF, and whether it has to be kept separate.”
“From a compliance perspective, the key risk management in the FX market operates in consistency. The Request for Quote (RFQ) platforms already operate like this. MDPs already operate on central order book, with transparency. Real time trade reporting is a new challenge, as is bilateral limit reporting, as well as screening against FCM limits” said Mr. Solinger.
“There are two ways of doing this: either submit directly or via a credit hub like us. We have APIs to publish limits to platforms, as well as kill switches. We are closer than where other platforms started because of this paradigm” concluded Mr. Solinger.
Traiana has experienced compliant platforms already in operation in the rates and Credit Default Swaps (CD) world. Mr. Solinger noted to the panel that he had already seen new players with compliant platforms having an advantage over existing ones which have to make changes. In terms of the standardization of programming interfaces, Mr. Solinger stated: “The clearing APIs have been standardized and the rulings relating to interbank clearing started a year ago.”
Mr. Wells concurred with Mr. Solinger’s findings that new market entrants have a distinct technological and cost advantage over existing players, as the existing platforms will have to make significant changes to their model compared to those entering the market with a more or less compliant product. “FX was the first OTC asset class to come electronic 15 years ago or so, but even today it is an expensive business building a platform. We have seen many come and go, and it’s quite a difficult process for platforms to switch users”.
Mr. Kemp finalized by speaking about the ability to share the codes being a point that would help the reporting process. He said that it would be useful to have a “common denominator to share the reporting. We are pushing for Unique Transaction Identifier (UTI) generation to be made a shared responsibility under the SEF rulings. If firms are operating as an ECN there is a considerable advantage in non-cleared product to also provide a UTI.”
“We have been talking to regulators because this is not allowed at the moment. If the trade identifier is shared right across the stack, it should be made more efficient on the buy side. It will make their reporting lives much simpler.”
A full and detailed report on the US Senate meetings on the Dodd-Frank Act will be included within the Forex Magnates Industry Report for Quarter 2, 2013, which will be available within the coming weeks.