5 October 2011
I attended SEFCON II, the second annual conference on SEFs (swap execution facilities), market structure and technology in New York on Monday. SEFs are venues where much OTC derivatives execution activity will migrate due to the Dodd-Frank Act (DFA). A number of my conclusions: 1) For many IDBs (inter-dealer brokers), becoming a SEF will largely be a re-classification of the hybrid business model they already pursue, but with meaningful investment in connectivity to CCPs and other trading partners. DFA builds some barriers to entry for these players in terms of up-front investment. 2) The issue of whether voice matching will be allowed off-SEF for certain swaps and without a requisite number of RFQs (request for quotes) is probably where the biggest disagreement between policy makers and market participants presently resides. Many in the industry believe that regulators are overstating the benefits of pre-trade transparency while not disputing electronic capture of acitvity post-trade. To put it another way, one SEFCON participant said "without the exception for voice trading, it will kill liquidity in size [for certain swaps]" 3) There will be an impact of DFA on SEF activity outside the US 4) Many platforms such as Tradeweb are already seeing increased volumes 5) Timing is in dispute, but the consensus seems to be that the clearing mandate will be implemented in 2Q 2012 6) One question hanging in the air is: what will the regulators do with all the data without significant investments in "Big data" know-how? Implications: What is apparent is that while brokers continue to invest in the SEF opportunity from a revenue perspective and for ultimate compliance, there is an understanding that the eventual rules and models may change, so actual best practices may (and most likely will) be different from what we envision in 2011. Flexibility in design is very important for brokers and vendors when they invest in IT solutions without a clear picturre. In other words, build adaptable frameworks, design highly configurable solutions and workflow, and adopt existing standards as much as possible to be efficient.