The third data repository for OTC derivatives trade reporting to be approved by US regulators has raised concerns that fragmentation of trade data may hamper effective regulatory oversight.
Last week, the CME Group joined the Depository Trust and Clearing Corporation (DTCC) and the IntercontinentalExchange (ICE) in gaining approval by the Commodity Futures Trading Commission (CFTC) to operate a swap data repository (SDR).
The CME Group approval follows a lawsuit filed by the exchange operator against the CFTC over an obligation to report non-public information on trades it clears to third-party swap data depositories. CME says it already has access to the data in question and having to report to third-parties would incur unnecessary costs.
CME Group is registered to collect and retain data on interest rate, credit, FX and commodity trades – similar to the instruments handled by the DTCC – while ICE’s Trade Vault SDR will initially focus on reporting of commodity and energy derivatives.
CME Group will waive all reporting fees until 30 September 2013, including back-loaded trades.
"As market participants look for alternatives in the SDR space, our service offers them the ability to optimise their existing connections to CME Clearing for automatic SDR reporting, which delivers a lower-cost option for firms transitioning to the clearing mandate,” said Kim Taylor, president of both CME Clearing and CME Repository Service.
Reporting of OTC derivatives trades began in the US on 12 October under CFTC rules – although CME was granted an extension until 4 December due to its lawsuit.
The rules currently require the reporting of credit derivative and interest rate swap trades by designated clearing organisations, i.e. central counterparties (CCPs). Major swap participants and swap dealers will begin reporting in mid-January and trades between buy-side entities are due to be reported by April 2013.
Swap dealers and major swap participants will be primarily responsible for reporting OTC derivatives positions on behalf of their buy-side clients. Buy-side traders that conduct OTC derivatives transactions bilaterally will have to determine reporting responsibilities among themselves following the April deadline.
Backing a favourite
Marisol Collazo, managing director, product management for Deriv/SERV, DTCC’s OTC derivatives post-trade services provider, believes market participants will opt to report most, if not all, OTC derivatives trades to a single SDR to ensure costs are kept to a minimum. As such, competition among SDRs will let swap market participants choose the facility that best fits their technological infrastructure.
“A complex reporting and fragmented environment will raise costs for swap participants to reconcile data from multiple trade repositories,” she said. “This will lead to greater compliance costs that are likely to be passed through to the buy-side.”
Collazo added that plans by exchanges to combine clearing and reporting fees – thereby compelling swap market participants to report trades to a SDR operated or associated with a CCP – could exacerbate fragmentation.
“It’s important that market participants have a choice of where to report trades and are not subjected to the requirements made by their clearing houses that bundle services in a way that makes it difficult for the reporting party to choose where it sends data,” she said.
But industry observers believe links between SDRs are unlikely in the short-term, particularly given the reluctance to share data, as evidenced by the CME lawsuit.
"CME's lawsuit against the CFTC is supposedly because of undue costs," said Mark Steadman, senior manager at consultancy Sapient Global Markets. "But what’s really at play here is CME’s reluctance to give up market share and particularly to share data, which gives it a competitive advantage."
Fragmentation of swaps data is not just a domestic consideration. OTC derivatives trading is a global market that requires harmonisation among different jurisdictions. For example, market participants are still unsure how a US firm dealing with a Japan-based firm in a German interest rate swap would be reported.
Many Asian countries – including Japan, Singapore, Hong Kong and Australia – plan to introduce reporting during the course of next year, as will Europe. A key difference between US and European reporting obligations is a requirement by the latter to report listed, as well as OTC, trades. While some industry observers have recommended a more globally coherent approach, individual countries are keen to have a homegrown view of swaps activity that could spawn the creation of new products and reinforce their status as financial hubs.
As such, links between data repositories in different countries are beginning to emerge. The DTCC and the facility currently being developed by the Hong Kong Monetary Authority are collaborating so that both use the same FpML messaging standards, data fields and definition.
“We believe the ideal situation for regulators would be to allow market forces to converge across the globe in terms of their choice of trade repositories,” said Collazo. “This convergence will make it more likely that data will be centralised enabling regulators to apply appropriate tools, like analytics on top of the data so that regulators can anticipate and react to potential risks in a timely way before they fully materialise.”
Reporting of OTC derivatives trades in a way that would allow regulators and market participants identify and react to systemic risk was one of the core pillars of market reforms laid out by the Group of 20 in its Pittsburgh summit in 2009. The reforms, enacted via the Dodd-Frank Act in the US, also require swaps to be traded on exchange-like platforms and cleared through CCPs.