Fewer sell-side broker relationships may become the trend

Fewer sell-side broker relationships may become the trend


The buy-side may enter a phase of fewer sell-side relationships, driven by lower volumes and increased regulatory responsibilities.

Gabe Butler, an executive director of Morgan Stanley in Hong Kong, believes that the industry is approaching a time when the buy-side may move towards a more minimalist approach to its sell-side providers.

“In the last year we’ve seen a number of buy-side shops start to cut down their algo brokers’ list. They feel it might be better if they confine themselves to understanding a smaller number of algo suites more deeply and they partner with the providers who have most money to invest in their algorithms’ performance and customisation.”

In addition, Hong Kong’s Securities and Futures Commission (SFC) is currently in the process of applying more regulation to algorithmic business. One result of is that the buy-side is going to have to attest to understanding the algo offerings of all its counterparties. That is an incentive to trim the list and look for assistance from those sell-side relationships that are maintained.

“Bigger firms tend to do well when markets become more regulated, as they have more scale, experience and can navigate through the additional regulation,” says Butler. “As one of the bigger firms in the market then, additional regulation is not a huge concern to us, but we’re well aware of the effect it has on the rest of the marketplace and on our clients.”

He believes that for an asset manager to stay high on the list for a particular broker has become harder and harder. To keep broker service at a very high level, the buy-side has to maintain their relevance to those brokers and put business their way. Until volumes start seeing some massive upward trajectory, as we saw in 2006/2007, Butler thinks this is the environment will persist.

“We’re definitely seeing a shift from a time that there was a rapid expansion in the number of brokers that were being used, perhaps towards a convergence where a user might use five or six, or cutting back to a list of about that number,” says Butler. “Those firms that are starting out now, they’re also likely to be looking to build to a list of about that size. That number still incentivises the brokers to continue to do their best in helping generate performance.”

A recent illustration of market demand for a bigger roster of sell-side brokers came in Asia after the 2008 bankruptcy of Lehman Brothers, when hedge funds who had previously felt comfortable using one prime broker, started to think that in order to avoid concentration risk, they needed more, preferably at least one from Europe and one North American.

“Now, if a hedge fund is starting out, they might feel they don’t need that many prime brokers, though if they have three, they’ll likely stick with them. We do see a degree of consolidation there and a lessening of the rationale from five years ago that they need at least one US prime broker and one European one.”

So, which sell-side firms will ultimately prevail? Is it necessarily the case that convergence will simply favour large firms? Butler summarises.

“You can be big and that would put you in a position to take advantage, but if there’s convergence, you’d have to service more clients, in an environment where there is still cost pressure with sell-side personnel salaries, and requiring expensive investments in operations and technology. Those firms that can afford to do it, and then actually do spend the money on IT budgets, should be the ones to win, whether or not they are necessarily big or small today.”

New Role for Buy Side in Corporate Bond Market: Liquidity Providers

New Role for Buy Side in Corporate Bond Market: Liquidity Providers


Full document at:-

New Role for Buy Side in Corporate Bond Market: Liquidity Providers?
With the shift in the corporate bond market from voice to electronic trading, and from capital facilitation by dealers to agency facilitation, will the largest institutional investors commit their own capital to replace that which has been withdrawn by dealers?
Corporate bond markets are being radically changed by a confluence of factors: new Basel III capital and liquidity rules, the MiFID requirements on transparency in bond markets, and the availability of innovative new platforms based on equity and FX market technology. These factors have already led to a reduction in capital commitment by dealers, even prior to the regulatory implementation of Basel III.

[Related: “In Search of Liquidity: The Transformation of the Corporate Bond Market”]

The shift from voice to electronic trading and from capital facilitation by dealers to agency facilitation are well established trends, but RFQ mechanisms are likely to continue to be necessary due to the clear differences between equities and FX on the one hand and most corporate bonds on the other. A key question is whether the largest institutional investors themselves might now choose to commit capital to replace that which has been withdrawn by dealers and to do this by making prices through order-driven and RFQ platforms. This would enable them to buy at the bid and sell at the offer, thereby taking out the spread. An increasing number of platforms are now All-to-All, thus enabling the buy side to act as capital providers.

For more on the technological innovation in and transformation of the corporate bond market, see Professor Scott-Quinn’s complete research paper, “European Corporate Bond Trading – the role of the buy side in pricing and liquidity provision,” below.

Institutional large-in-scale (LIS) crossing networks for bonds, such as Liquidnet provides for equities, and the use of reference pricing should enable investment institutions to transact with each other without broker-dealer, MDP or SDP intermediation. However, under recent draft proposals for MiFIR, European regulators have introduced a volume cap mechanism that may have a dramatic effect on dark trading in Europe – whether in equities or, in the future, in bonds. Regulatory control will be based on a (low) cap on the percentage of trading that can go through mechanisms using a reference price. This would seem to be only the most recent of a number of retrograde steps taken by the EU in terms of its implications for market liquidity.

The combination of Basel and EU regulation certainly has the potential to counter all the efforts of individual governments and the G30 to encourage corporations to raise finance for economic expansion through bond markets rather than through fragile banking systems in order to reduce systemic risk. At this stage it is too early to say if higher costs and reduced position taking by broker- dealers in response to regulatory change will result in higher funding costs for issuers of corporate bonds in Europe or if the innovations we discuss in the paper below may be able to offset at least some of these additional regulatory costs. Certainly at the moment, there is little sign on this side of the Atlantic that regulators are heeding the sentiment of SEC Commissioner Daniel Gallagher, who hoped that “the Commission … will understand the differences and interplay amongst the equities, debt and credit markets so that we can be a more sophisticated regulator of those markets.”

Professor Brian Scott-Quinn is Chairman and Director of Banking Programmes at the ICMA Centre, Henley Business School, and a former practitioner in the eurobond secondary market. Deyber Cano, a research assistant to Professor Scott-Quinn at the ICMA Centre, contributed to the paper.

Conflicts key to buy-side broker selection

Managing inherent sell-side conflicts of interest has become a key factor in broker selection by institutional investors, experts explained at the inaugural TRADE Agora industry event held in London on 21 June.

via Pocket http://www.thetradenews.com/news/Trading___Execution/Brokerage/Conflicts_key_to_buyside_broker_selection.aspx.aspx July 03, 2013 at 07:09PM

Edinburgh-based Kiltearn Partners has gone live with INDATA’s iPM – Intelligent Portfolio Management platform.

Edinburgh-based Kiltearn Partners has gone live with INDATA’s iPM – Intelligent Portfolio Management platform.


Greenwich, CT – INDATA, the provider of software and services for buy-side firms, has announced that Kiltearn Partners, based in Edinburgh, Scotland is live with INDATA’s iPM – Intelligent Portfolio Management platform.

Based on significant growth in assets under management, Kiltearn Partners LLP required better systems to facilitate greater operational efficiency and compliance capabilities. Kiltearn chose to implement iPM based on the system’s strong portfolio modeling, compliance and dealing (OMS) capabilities, as well as the fact that iPM can also provide a fully integrated back office accounting package via a single database architecture.

“The review and replacement of our back office system came about as a result of a full scale review of platforms within the current marketplace that offered us the functionality of a full front to back solution with more sophisticated compliance capabilities,” commented Stuart Gunderson, Chief Operating Officer. “Now that iPM is in place, we have a fully integrated software application that is designed to efficiently handle our investment management process,” he added.

“We are very pleased to welcome Kiltearn Partners LLP to our client community and look forward to serving their current and future needs,” commented David J. Csiki, Managing Director, INDATA. “Having made our iPM products and services available outside the US only last year, we have had excellent uptake by clients, especially in the UK, with a number of firms in our active implementation queue. We are excited by the depth of experience our new international clients bring to the iPM user group at large,” he added.

Managers fret over loss of broker service

Managers fret over loss of broker service


The US buyside broadly favours the sellside’s increasingly holistic approach to serving their equity trading needs, but is concerned that the move to combine high and low-touch trading may compromise the service they receive.

Managers fret over loss of broker service

Although 85% of senior and head traders at US buyside firms prefer an integrated team of high and low-touch traders, such teams need to be carefully constructed, according to a survey of 41 senior and head traders by capital markets consultancy Woodbine Associates.

The combination of electronic – or low-touch – trading services, with relationship-driven – or high-touch – sales traders for equities is becoming increasingly common because brokers are under pressure to reduce costs as trading volumes have failed to recover to pre-crisis levels.

Goldman Sachs, US broker dealer Knight Capital – which is close to being acquired by electronic market making firm Getco – and Citi are among the firms that have sought closer ties between their high- and low-touch desks in recent months.

Speaking to Financial News, Matt Samelson, principal at Woodbine Associates and author of the report, said: “Although there has been pressure on the sellside to reduce headcount and coverage, US brokers are experimenting with how to best serve their buyside clients. All of the buyside firms we questioned wanted a service that offers them the broadest and most efficient access to liquidity, without wasting their time.”

 Mark Kuzminskas, head of equity trading at Robeco Investment Management, added: “The convergence of brokers’ high- and low-touch services may appear to be a more efficient coverage model, but the effectiveness of this transition depends on us clearly defining the parameters of our relationship with that broker. Any broker looking to offer us a value-added service in this way also needs to fully understand our trading methodology and coverage expectations.”

Around a third (32%) of those surveyed said there was room for improvement in how separate trading desks collaborated, but 44% believed closer ties between low- and high-touch desks “was a recipe for compromise and abuse”.

Concerns were even more prevalent when survey respondents were asked for their view on using a single point of contact at a broker to service both sales trading and electronic trading flows, with 84% saying it could have a negative impact on the service they receive.

Of the 84%, the primary worry was the risk of a diminished service by brokers – voted for by 47% of those questioned – followed by the potential to lose anonymity, cited by 37% of respondents.


Electronic trading allows buyside traders to send orders directly to the market, via a broker’s infrastructure, allowing their orders to stay anonymous and avoid market impact. If electronic flows are visible to sales traders, some buyside firms believe this anonymity could be compromised.

“There are definitely concerns on integrity. If buyside firms expose their orders to a wider range of trading desks, they need to be assured their information will not be abused,” said Samelson.

“It’s not a matter of haphazardly combining groups. The view among buyside firms is that the market is too complicated for one person to do all these specialised functions well. Brokers should be looking at ways to consolidate equity trading desks, but the resulting service needs to be client-specific,” he added.

— write to anish.puaar@dowjones.com and follow on Twitter @anishpuaar


ISDA/FOA swaps clearing template an “important” step

A standard contract for buy-side firms and their clearing members “will make life easier” when clearing OTC derivatives across central counterparties (CCPs), according to those involved.

via Pocket http://thetradenews.com/news/Asset_Classes/Derivatives/ISDA/FOA_swaps_clearing_template_an_%E2%80%9Cimportant%E2%80%9D_step.aspx June 12, 2013 at 07:00PM

The Modern Portfolio Manager Cockpit: Front-to-Back Portfolio and Risk Management

The Modern Portfolio Manager Cockpit: Front-to-Back Portfolio and Risk Management


In search of alpha, firms and investors are adding new asset classes and markets to their portfolios. But the buy side needs a system that can provide portfolio managers, regulators and investors with the required visibility into these products.
Investment management firms are facing a new reality. The current low-yield environment is forcing hedge funds and traditional asset managers to reach for innovative strategies in search of new sources of alpha. Constrained by increased volatility in major asset classes and lower expected returns over the long term, asset managers and their clients need to diversify their portfolios while reducing operational risk and improving compliance with global regulations.

To increase returns and avoid sharp losses, firms and investors are looking to diversify their portfolios, adding new assets where needed. There has been a great increase in alternative investments in recent years from traditional asset managers, showing the rising appetite for asset classes that have a proven track record in delivering returns.

[Related: “How to Build a Modern hedge Fund”]

The growing investments into emerging markets are another key example of asset class expansion. Investment firms require trading support in order to adhere to local market conventions across all geographical regions, particularly in Latin America, the Middle East and Asia. However, it is important for buy-side firms looking to invest in new asset classes or geographies that the system they use can handle these products with the required level of transparency and reporting mandated by regulators and investors.

Finally, as firms are trying to differentiate themselves to attract new inflows, there is a renewed focus for liability-driven investments and, more generally, outcome-based solutions. Plan sponsors are under duress and are showing appetite for such solutions. From the investment manager perspective, this reinforces the need for detailed, across-the-board exposure analysis and hedging functionality – in systems capable and scalable enough to follow the growth in volumes and complexity.

Total Visibility

The modern portfolio manager needs visibility, above all. Standalone legacy systems may not provide portfolio managers with what they need in this regard. In order to be effective, having a consolidated view of all positions and assets and being able to see P&L and exposures in real time is imperative.

More important, there is currently a shift of functionality from the back office to the front office. Collateral management, for example, is now no longer a post-trade process. Portfolio managers want to understand the impact of their trades on margin calls, or the impact of market movements on their projected cash. Investment accounting is also becoming more intertwined in the trade decision-making process – managers want to know in real time how a certain trade impacts their accounting P&L.

Finally, and more than ever, it is important for them to be able to simulate new assets and products to evaluate their impact on risk. Sensitivities, VaR and stress testing are key contributors to this analysis and to efficient portfolio management. Portfolios are becoming more complex and market conditions are more volatile, hence the need for integrated risk management in the investment decision process.

Global Regulatory Compliance

Since the financial crisis, and even in the years before that, there has been a rapid institutionalization of the hedge fund and asset management market. The pressure on compliance officers is considerable given the unprecedented amount of current and future regulatory activity, including UCITS, AIFMD, EMIR, MiFID and Dodd-Frank. Sophisticated investors are now demanding better reporting and deeper transparency from their investment managers, and increasingly perform in-depth operational due diligence. Regulators are also demanding greater transparency in risk management and reporting.

While looking to minimize the operational efforts to produce the reports, there are business opportunities for firms looking to attract new capital by following the “labels” of regulations and providing their investors with guarantees of compliance to best practices in investment management.

In addition, siloed business activities can create a higher risk of operational inefficiency. Today’s risk officers require consistent data and transparency across all of the organization’s business lines and need to be able to consolidate all the risks that might impact the organization. End-to-end integration and straight-through processing (STP) for central clearing are a big help in that area, as well.

Of note, another factor to consider is the increasing demand for managed accounts over the past few years. The financial crisis has left many investors nervous about comingled assets. Many now want their assets to be segregated. The operational burden of doing so can be significant.

Of course, costs are a big issue at a time when inflows are relatively low and margins are squeezed. Firms can benefit from a single, integrated system that covers all asset classes and is modular, with functionality that can be added on-demand with ease and has no redundancy. Hedge funds and traditional asset managers don’t want to have to develop their IT infrastructure themselves and want to rationalize the number of systems or interfaces. They expect service providers to develop new functionality to enable them to find alpha and grow, be more efficient, and meet regulatory challenges.

Cor Financial launches Salerio.CONNECT

Cor Financial launches Salerio.CONNECT


First Published 3rd June 2013

New application to simplify first time automation of post trade processing operations for buy-side firms

London – Salerio, the post-trade management system used by securities and treasury trading firms, has announced the launch of Salerio Connect.

Salerio Connect has been created for small to medium-sized buy-side firms who want reduced operational risk and lower processing costs per trade to automate their post-trade operations. Salerio Connect integrates with SWIFT, the financial messaging provider, combining SWIFT’s Alliance Lite2 connectivity with Salerio’s processing power in an ‘out of the box’ application.

Bruce Hobson, CEO, Salerio, commented, “We know that all investment expenditure these days requires a compelling business case to support it. At the same time, it is becoming increasingly important for firms of all sizes to take control and automate their post-trade processes in order to minimise risks, lower costs and prepare to comply with ever increasing demands from regulation. We believe that customers will benefit hugely from our cost-efficient software delivery and pricing model. Our ‘out of the box’ approach requires minimum configuration and is designed to easily integrate with and work alongside incumbent processing capabilities. We are committed to helping more firms benefit from the cost reduction and processing efficiency that automation brings.”

Paul Taylor, Director, Global Matching, SWIFT, added, “The combination of SWIFT’s Alliance Lite2 connectivity with Salerio technology enables firms of any size to benefit from automation of their back-office operations. This is crucial today, with the pressure on buy and sell sides to reduce numbers of unaffirmed trades in order to control cost and risk, while meeting the requirements of forthcoming regulation such as CSD-R and getting ready for T+2 settlement. Salerio’s approach to packaging first time automation for buy side firms opens up the prospect of cost-effective STP to a wider audience, at a time when increasing numbers of brokers are adopting SWIFT’s ISO standard Global Electronic Trade Confirmation (GETC) solution in order to streamline the confirmation process with their clients.”

OTC Trade Documentation: A Revolution Awaits by Nick Fry

OTC Trade Documentation: A Revolution Awaits by Nick Fry


OTC Trade Documentation: A Revolution Awaits
by Nick Fry
New derivatives regulation will transform the OTC trade confirmation process. Sapient’s Nick Fry explains the challenges both buy-side and sell-side firms face as they adjust procedures and ramp up back-office operational teams to meet the new requirements for timeliness of confirmations and recordingkeeping.

Regulatory pressure to improve the OTC trade documentation process is not new. For several years, regulators, led by the Federal Reserve Bank of New York, have been pushing the industry to become more standardized and automated. Leading dealers have previously signed a number of letters to the Fed committing themselves to certain targets, and these have been instrumental in significantly decreasing operational risk in many asset classes, most notably credit derivatives.

Now, however, the stakes have been raised. The financial crisis and the subsequent commitments from the G20 group of nations to bring control to the complex and disparate OTC market have bred a different outlook from global regulators. Goals that were considered a fantasy by participants only months ago are now expectations; practices that have been the norm for decades have been questioned and destined for transformation.

The Requirements
The most noticeable theme that can be drawn from both sets of legislation is that the regulators are targeting an environment where there is little-to-no downstream operational risk attached to unexecuted trade documentation. This is a major step-change from the current state, and as the following sections detail, it will pose fundamental challenges to all client types and all departments dealing with non-cleared OTC derivative transactions.

There are two key directives in both the CFTC and ESMA regulations around OTC trade confirmations: timeliness and recordkeeping.

The primary component of both sets of rules centers around the timeliness of confirmation execution, with the ultimate goal of both regulators that all OTC trade confirmations should be executed by the first business day following the trade date—except for deals transacted with non-financial services firms who do not regularly trade in derivative products. This is a change of focus, since previously there have been no specific industry commitments around execution timeliness for the entire confirmation population (the Fed commitments only focused on execution timeliness for electronically confirmed trades).

Regulators have acknowledged that the industry will need time to adjust to this new reality. They also recognize that certain asset classes have much more work to do toward meeting these targets than others (e.g., equity vs. credit). As a result, they have both decreed a rolling schedule for compliance over the next two years based on asset class and client type.

The ESMA regulation around confirmation timeliness is simpler yet more stringent than that of the CFTC. Under the CFTC rules, Swap Dealers (SDs) and Major Swap Participants (MSPs) are the only parties subject to the mandatory requirements of confirmation execution timeliness. The rules governing trades facing non-SDs and non-MSPs only decree that policies and procedures should be in place to achieve execution by certain timeframes but fall short of mandating execution versus these types of clients. Instead, the rules require SDs and MSPs to dispatch confirmations within target timeframes. ESMA, on the other hand, simply orders firms to execute confirmations by specific timeframes, discounting the need for policy around confirmation dispatch.

The other key area of focus of both regulatory bodies is recordkeeping and reporting. The CFTC regulations demand that market participants retain details of the time of dispatch or receipt of i) the sent confirmation and ii) the executed confirmation, and that these details be made available on request to auditors and regulators. The ESMA Technical Standards require firms to report to the regulator on a monthly basis the number of unconfirmed OTC derivative transactions that have been outstanding for more than five business days.

The CFTC regulations also stipulate additional obligations. There is a requirement for SDs and MSPs to generate and dispatch pre-trade acknowledgements upon request by the respective counterparty. These acknowledgements go beyond the typical term sheets seen in the market today and are required to include all legal and economic terms, except any terms agreed upon at trade execution (e.g., strike price).

The State of Play
So how far is the industry from achieving these goals? The metrics in the ISDA Operations Benchmarking Survey (IOBS) from May 2012 indicate that the market will have to change dramatically in order to comply. The IOBS data suggests that all firms struggle to have less than one business days’ worth of OTC trade confirmation volume unexecuted.

This is particularly the case for the asset classes where paper confirmations are still common (e.g., equity). Indeed, the survey states that for most asset classes there are still instances when confirmations are outstanding over 30 days old.

The only metrics around confirmation timeliness in the IOBS are related to dispatch—not execution. However, these statistics can be used as another indicator of the market’s readiness to comply.

The survey also details the percentage of confirmations sent by a certain time per asset class for both electronic and non-electronic confirmations. The data for electronic confirmations demonstrates that the vast majority of documents processed via this method are dispatched by T+1 (equities is by far the lowest at just over 80%, whereas other asset classes are in excess of 90%). However, the cumulative percentages of confirmations sent by a given day for the paper population are far more concerning.

• Only commodities could manage to dispatch their entire paper population by T+5
• All asset classes are failing badly when compared to the initial CFTC targets for dispatching paper confirmations for trades with a non-SD/non-MSP

When this data is reviewed against the average percentage of paper confirmations for each asset class, the scope of the challenge is clear.

The Initial Impacts
It is clear that the impact of these rules will be felt far and wide across business divisions and market participants. Different participants will be affected in different ways. For the sell side, the impacts are primarily process and technology changes; the buy side will need to embrace automation; and intermediaries will need to help drive and facilitate industry change.

Sell Side – Front Office
Front-office personnel in investment banks will be affected in numerous ways as firms react to the regulations. The initial action for most, particularly sales staff, will be to educate their clients. While the regulations are widely acknowledged and understood on the sell side, the same cannot be said of the smaller buy-side firms, many of which trade OTC derivatives only sporadically. Therefore, the sales organization has a key responsibility to ensure their clients are fully aware of the rules and their impact in order to help meet compliance deadlines.

Another functional area in which the front office will be under pressure to make necessary changes is trade capture. In order for firms to have any chance of meeting the aggressive targets around confirmation execution, it is imperative that trade capture is done in both a timely and accurate fashion. Given the onset of real-time transaction reporting, this may have already improved; nevertheless, these new regulations drive home the importance of creating new process efficiencies.

With regard to the CFTC rules, there is also the potential requirement for pre-trade acknowledgements containing full legal terms which will change how the front office communicates with its clients. With the exception of the highly structured business, most OTC transactions are pre-confirmed by the dissemination of a term sheet, which merely details the core economics of the trade. The new CFTC rule potentially changes that requirement, resulting in an increased reliance on legal, credit and/or operations personnel to produce these pre-trade acknowledgements instead.

Sell Side – Operations
The division that initially will be most affected is operations. In order for firms to cope with the new targets, they will need to provide tactical and strategic solutions to the problem:

• Tactical – Add additional manpower to ensure confirmations are dispatched T+0 and returned within the relevant timeframe
• Strategic – Invest heavily in further template standardization across the industry, as well as technological solutions (market-wide and in-house), in order to reduce the reliance on extra headcount

The additional headcount required in the short term to meet the new targets is likely to be substantial. Firms today fail to dispatch the majority of paper confirmations on T+0, let alone fully execute them. (The IOBS states that Currency Options perform best out of the asset classes at less than 20% being dispatched on trade date).

It is imperative that in asset classes with significant paper volume, most notably equities, there is a concerted drive by the industry to standardize further product templates in order to facilitate electronic matching and automation. The industry must also find technological answers to the paper problem. Many firms are still reliant on manual processing and must embrace enhancements to their own systems infrastructure. Firms, such as Thunderhead.com, have proposed inventive solutions to this issue which are likely to be explored further.

Buy Side
There would also be an expectation on buy-side firms, such as asset managers and hedge funds, to be willing and able to meet the new regulatory timeframes. In Europe, such firms also have to comply and, while in the US they are not directly affected, they will be expected to help sell-side firms to comply. As a result, these firms will also require significant changes to the way they currently operate.

First, the buy side can expect increased pressure from the sell side to utilize electronic matching platforms for electronically eligible trades. As the IOBS states, between 10-20% of electronically eligible volume is still confirmed via paper. This is primarily due to either clients not wanting to change their process to incorporate firms, like MarkitSERV or ICE eConfirm, or banks not having the resources to onboard clients who trade sporadically. Either way, there will be a focus from the sell side to eliminate this “missed opportunity” percentage as electronic matching is seen as key to meeting regulatory targets.

Additionally, there is likely to be increased pressure on buyside firms from the sell side to agree upon confirmation templates prior to trading. This could take the form of Master Confirmation Agreements (MCAs) which detail industry standards for a particular product to reduce the size of the trade confirmation and facilitate electronic matching. This is in lieu of long-form, bespoke confirmations.

Finally, there will be increased pressure from the sell side to agree to execute confirmations once the transaction has been completed. This will inevitably mean that buy-side firms, or their operational administrators (e.g., State Street, JP Morgan WSS, Northern Trust), will be forced to enhance their business processes and probably increase their headcount to handle the new demands from the sell side.

While market participants conducting OTC transactions are primarily affected by these rules, there are a number of players who will also be under extreme pressure to deliver.

The performance of the International Swaps and Derivatives Association (ISDA) will be placed under the microscope as the market looks to standardize more products. The lack of adoption of the 2011 ISDA Equity Derivative Definitions has been a barrier to reaching agreement on new product standards in this asset class. As such, ISDA has to find a way to marry the requirement for rapid template standardization with a return on investment for this initiative.

The industry acknowledges that electronic matching platforms are the most effective way to achieve timely confirmation execution for non-cleared trades. However, in most asset classes there is only one vendor that has critical mass (e.g., MarkitSERV), and, as a result, there is a huge dependency on that vendor to deliver new templates onto its platform when they are standardized.

Looking Ahead
In the medium-to-long term, a revolution awaits the bilateral OTC market.

Historically, the industry has primarily traded first and agreed upon legal documentation post-trade. While participants will continue with this approach in the short term, going forward, it will have to change as compliance targets in 2014 move toward T+1 execution. This reduced timeline is simply not conducive to post-trade negotiation. Therefore, firms will be forced to evolve the target operating model to move confirmation negotiation to be a pre-trade function in order to comply.

The impacts are likely to be dramatic. The pre-trade term sheet and the official legal confirmation will most likely become the same document. The front-to-back processes and technical infrastructure will have to be reviewed and enhanced in order to facilitate the pre-trade negotiation process. Confirmation teams (or elements of them) will most likely move from being a post-trade operations function to support sales desks.

The biggest impact, though, will be on the front office. In essence, firms will have to ensure that all legal terms and conditions are agreed upon prior to trading. Therefore, unless clients have already pre-approved the template, there may be a lag between agreeing to trade and actually executing the trade while the legal terms are agreed. This is a significant change to the current process. Firms that can minimize this lag will potentially have a competitive advantage over their peers. For some firms, the change may inhibit them from offering bilateral OTCs as a service because the incurred pretrade cost and associated risk that the transaction might not occur may be prohibitive.

While bilateral OTC transactions will reduce in number over time with the onset of central counterparty clearing, the expectation is that volumes will remain significant for a number of years and that there will always be a proportion of the market that will be non-cleared. As a result, the new regulations around confirmation timeliness should be of immediate concern to all participants.

In recent years, OTC documentation has not been a traditional area for industry investment. For firms to have any chance of regulatory compliance, this will have to change. These rules will also see the end of the OTC confirmation process as we know it—another radical step in the industry’s move towards a more transparent, efficient and ultimately safer market.



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