Central clearing house for derivatives 'end year'

[Sapphire Capital]

Central clearing house for derivatives 'by end of year'
By Aline van Duyn and Nicole Bullock in New York and Paul,J Davies in London

August 1 2008

Big banks and dealers should have a central clearing house for the $62,000bn credit derivatives market by the end of the year, marking an important milestone in efforts to reduce systemic risks from inefficient trading and counterparty exposures.

Dealers also committed themselves to expanding automated trade-matching and electronic processing in other over-the-counter derivatives markets when they delivered a progress report yesterday to the Federal Reserve Bank of New York. The NY Fed is spearheading the regulatory drive to cut trading and settlement risks in OTC derivatives markets.

The near-failure of Bear Stearns in March sent shivers around the financial world as its collapse would have had profound knock-on effects on other financial institutions in part due to the counterparty credit exposures from thousands of OTC derivatives contracts. Credit derivatives in particular were a cause for concern.

Other sectors, such as the even larger interest-rate derivatives, are still far from the efficient and well-administered operations the NY Fed would like to see. Large numbers of trades in the sector are still unconfirmed days after they are made.

"Especially given recent experiences, it is key to know what your exposures to other counterparties are," said Eraj Shirvani, chairman of the International Swaps and Derivatives Association and a managing director at Credit Suisse.

Progress on electronic processing of credit derivatives has been good, with more than 90 per cent of trades conducted electronically by the end of June, according to data from Markit Group.

However, equity derivatives trading - also part of the Fed's initial focus - is still lagging behind, with only about 25 per cent of trades done electronically. Interest rate derivatives, by far the largest section of the OTC derivatives markets, have improved dramatically since last year but still are only just over 50 per cent of trades.

It is only in credit derivatives that plans are afoot for a central counterparty, although participants said it was possible such plans might be extended to other sectors of the derivatives market. Further plans will be detailed in October.

About 11 dealers are working to revamp the Chicago-based Clearing Corp into the credit derivatives industry's main clearing house.

In order to allow for central clearing, all parts of the credit default swap market need to operate electronically and be integrated.

Dealers have agreed to significantly reduce the total value of outstanding CDS trades, to "hardwire" a cash settlement mechanism into CDS documentation to help sort out corporate defaults by the end of the year. There are also moves to improve collateral management by reconciling portfolios on a weekly basis

[Sapphire Capital]

August 3, 2008

The Managed Funds Association has announced that it is joining the 17 major derivatives dealers as a signatory to a letter to global regulators committing them to improving operational efficiency in OTC derivatives, as well as commodities and foreign exchange markets and collateral management.

The letter reaffirms the ongoing co-operation between the buy-side and sell-side, and represents a step-up in commitments to improve market discipline and efficiency through the use of electronic platforms.

The MFA first joined the so-called major dealers as a signatory to a letter to industry regulators detailing operational targets and commitments in March this year, which was also signed by the International Swaps and Derivatives Association and the asset management group of the Securities Industry and Financial Markets Association.

In June the MFA and other members of the operations management group, including representatives of the major dealers, ISDA, Sifma and several buy-side institutions met with US and international regulators to review commitments and progress in this area

'MFA is pleased to have a major role in advancing the latest industry strategy and commitments to reach these important industry goals,' says the association's president and chief executive Richard H. Baker.

'We reaffirm our commitment to working closely with the major dealers, ISDA and Sifma, and we are pleased to expand these important operational goals and provide detailed commitments that reach beyond previous objectives.

'MFA fully endorses the collaborative efforts to promote sound practices and efficiency and pledges to actively work with our constituents and other market participants to educate the marketplace on the goals outlined in this letter.'

MFA began working with the dealer community in early 2005 to develop ways to improve processing practices for new trades and novations in the credit derivatives market. The association says collaborative efforts with the major dealers, ISDA and its member firms and Sifma have led to initiatives producing substantial reductions in backlogs of trade confirmations for credit derivatives.

In furtherance of the commitments outlined in March, MFA, ISDA and Sifma have jointly developed an implementation plan to help educate and inform the buy-side of the credit derivative processing goals, and since its completion in late May the three organisations have held educational events for the buy-side in New York and London.

The Managed Funds Association, whose members include hedge fund, fund of funds and managed futures fund management professionals, was established in 1991 as a source of information for policymakers and the media as well as an advocate for sound business practices and industry growth. The MFA is headquartered in Washington, DC, with an office in New York.