Swap execution facilities, or better known as SEFs, grabbed many of the headlines in 2013 as Dodd-Frank rules created requirements for much of the US swap markets to move onto such centralized platforms to mitigate pre-trade risk. After a year or so of multiple SEFs going live, the market has been taking shape with platform leaders and laggards emerging.
Within the foreign exchange swaps market which includes Credit Default and Interest Rate swaps, Bloomberg has quickly become a market leader among SEFs, having reached a record $500 billion in interest rate trades executed on its platform during October. Following their launch of interest rate trading tools on the SEF, Forex Magnates used the occasion to learn more about the new features, as well as the overall industry.
Adding functionality to their SEF was a List trading tool for interest rate swaps which was added last week. The List tool allows traders to build a basket of swaps which can include multiple durations and conditions to be bid on by SEF liquidity dealers. As a request for quote (RFQ) market, dealers return bids on the overall basket, thus reducing the need for traders to submit multiple quote requests on individual swaps composing their basket.
Speaking with George Harrington, Head of Global Fixed Income at Bloomberg, he explained that the key feature of the List tool is the ability for users to open and close entire baskets of positions in an efficient matter. The tool also reduces back office reporting time, as individual swaps of the basket are sent automatically for real-time clearing, as well as reported to risk management software.
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Discussing their SEF growth, Harrington attributed it to Bloomberg having an existing infrastructure of “deep liquidity” and “central counterparty clearing system in place,” due to dealers and buy-side participants being connected and trading together using the Bloomberg Terminal. In this regard, the SEF became a regulated extension of activity that had already been taking place using Bloomberg’s technology.
Speaking about the future and whether more of the global swaps market will become centralized, Harrington explained that regulation in Europe and Japan for platforms such as SEFs was taking place. In both those regions Bloomberg expects to have platforms up and running and has already begun the initial phases of the regulation process. Within Europe, Bloomberg expects to launch their centralized swaps platform as a Multilateral Trading Facility (MTF).
Swaps Dealer Margin Decline?
One of the expectations of the move of swaps trading onto SEFs and other electronic platforms was a decline in trading margins for swap dealers. As a centralized product, the market moves from being one driven by relationships to price. For traders this means a more competitive market as dealers bid for the same order flow. However, for swap dealers, tighter pricing can have an effect on the bottom lines of banks.
Within the FX market, a similar pattern has emerged over the last ten years as trading has become electronic and made it easier for traders to aggregate liquidity from multiple sources and trade with the best bidders in the market. The spread compression though has been mitigated by a fourfold increase in global FX volumes since 2001. Within the swaps market, Harrington remarked that he was seeing bid/offer from dealers taking place. However, this hasn’t necessarily led to an increase in volumes as activity is still below pre-global financial crisis levels.