Swap execution facility
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Swap Execution Facilities, or SEFs, were given life by the Dodd-Frank Financial Reform Bill, which requires over-the-counter (OTC) swaps to be cleared and traded on this new type of regulated platform.[1][2] According to Dodd-Frank, any swap that is "made available to trade" must do so on a designated contract market (DCM) or a swap execution facility.[3][4]
The U.S. Commodity Futures Trading Commission (CFTC) has oversight of the OTC market under the new law and must issue new rules to implement this authority over swaps. U.S. lawmakers sought to regulate swaps after the trades complicated efforts to solve the financial crisis.[5]
One difficulty for the financial industry, however, is that swap execution facilities have not yet been given a rigid definition.[6] Regulations were required to be finalized by July 15, 2011. However, in a letter to the CFTC, the National Futures Association requested delays in the implementation of swap execution facilities changes, arguing the current time line for changes was too ambitious. The NFA argued that that time needed to be dedicated to immediately designing and testing new systems for each swap execution facility that contracted with NFA.[7]
On Dec. 5, 2011, the CFTC proposed a rule that would require the SEF or DCM to submit a determination regarding the availability of a swap for trading to the commission for review, taking into consideration eight factors such as size, liquidity, and the width of the bid/ask spread.[8] For more information, visit the MarketsReformWiki page on the proposed rule.
In March of 2011, ISDA published a paper focused on SEFs which concluded that SEFs may play a positive role in the OTC derivatives market. They may strengthen the infrastructure of the market, help prevent insider trading and other market abuse as well as increase transparency and access to markets for smaller participants.[9]
Early Swap Execution Facilities
The IntercontinentalExchange (ICE) announced its intention to become a swap execution facility. ICE is already the major clearing house for certain swaps, including credit default swaps. Other entities that planned to apply for SEF status included BGC Partners, GFI Group, ICAP, MarketAxess Holdings, Tradeweb, Tradition and Tullett Prebon.
Many of the companies have urged the CFTC not to define a SEF too much like a traditional exchange, which has an "open order book" model that publicly lists bids and offers. SEFs should be treated differently, they said, because swaps were generally less frequently traded than futures contracts and a certain degree of anonymity was required to ensure that liquidity in the swap market is preserved.[10]
Early Tests
In November of 2010, online derivatives marketplace Tradeweb facilitated execution of the first fully electronic, dealer-to-customer interest-rate swap that was processed by a central clearinghouse.[11]
In February of 2011, U.S. dollar-denominated swap transactions were executed on the Tradeweb institutional multi-dealer-to-client platform between BlueMountain Capital Management, a U.S.-based hedge fund, and Deutsche Bank.[12]
In a preview of how SEF were expected to function once the rules and registration were complete, six firms completed multi-product trades on the MarketAxess execution platform in March of 2011, with J.P. Morgan acting as counterparty and clearer. The transactions included single-name CDS and credit index trades. Some trades were cleared; others were intermediated, or remained bilateral. The six clients of MarketAxess and J.P. Morgan that were involved were BlueCrest Capital Management LLP, BlueMountain Capital Management, Diamond Notch Asset Management, DCI, LLC, Pine River Capital Management LP, and a large, unnamed U.S. bank. The firms represented a variety of clients that would be impacted by upcoming regulation.[13]
References
- ↑ ICE to register as swaps trading platform, CEO says. Reuters.
- ↑ SEF 101: Deconstructing the Swap Execution Facility. Deriv Alert.org.
- ↑ Q+A-What’s at stake for swap-execution facilities?. Reuters.
- ↑ J.P. Morgan Clears the Air on Derivatives. WSJ.com.
- ↑ Swap Trading Systems Should Be Broadest Possible, ISDA Says. Bloomberg.
- ↑ Swap Execution facilities to storm the industry?. FierceFinanceIT.
- ↑ NFA Calls For Swap Execution Delays. GFS News.
- ↑ Process for a Designated Contract Market or Swap Execution Facility to Make a Swap Available to Trade under Section 2(h)(8) of the Commodity Exchange Act. CFTC.
- ↑ Swap Execution Facilities. ISDA.
- ↑ CFTC unveils new oversight regime for swap trading platforms. Dow Jones.
- ↑ Tradeweb Delivers Milestone in Electronic Swaps Trade. WSJ.com.
- ↑ Press Release. Tradeweb.
- ↑ Press Release. PR Newswire.
